Option Concepts – Calls

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A call option provides a way to temporarily speculate on a business’ successes with minimal capital outlay when compared to becoming a direct stockholder. A call option’s current value is driven by time elapsed, leading to the options’ expiration, and price fluctuation of the underlying stock that the option is written for.

Call the Shot

A call option is a way to use financial leverage. Not directly owning stake in a business, but still potentially participating in a company’s growth by making an agreement with a counterparty who directly owns the stock. This contract allows one to purchase an asset for a set price at a defined time in the future. If the price should exceed the described value in the contract, you have the option to purchase the stock at the price defined in the option contract. You can take ownership of the underlying stock or sell the contract if you would like to.

This can be a way to participate in the success of businesses that you believe will become more valuable, with comparatively low capital expenditure.

Example

You purchase a call option giving you the right to buy a security for $2 at any time over the next 6 months. 2 months pass and the market price of the security has increased in value to $5. You have the option to purchase this security for $2 with your call option. The asset is now worth $5, however you can acquire it for $2 resulting in a $3 profit.

If the price of the stock declines to $1 during this time, your option becomes valueless. The initial cost of acquiring the option is the risk of loss.

Counterparty – Why Would Someone Sell You This Option?

An owner of a stock may wish to sell you a call option for a variety of reasons. Perhaps they simply think you are wrong, and that the stock will not increase in value over the period described in the option contract. They can sell you a call, creating income for themselves from the price you’ve paid for the option contract, while still owning their stock position.


Give me a “call”

The information in this post was written by S. Zachary Fineberg, CFP(r) Managing Member of Fineberg Wealth Management, LLC, a registered investment advisor. If you would like to schedule a consultation to discuss how Fineberg Wealth Management can help you reach your long-term financial goals, please make contact to discuss.