About the Call Option

A call provides the simplest form of options investment. Primarily, an investor or trader who purchases a call is "bullish" on the underlying asset. In other words, the investor feels that this underlying asset will be increasing in price. However, investors sometimes buy calls as part of a broader position, or because they believe they can profit from the difference between implied and statistical volatility. For more information, see About Volatility. Obviously, careful analysis and selection of the underlying asset is the most important factor when deciding to purchase a call.

A call holder (the one who purchased the call) will most likely realize profits if the underlying asset increases in price fast enough to override the time decay. Why? There are two reasons. The first reason is that if the price of the underlying asset increases on or before the contract expiration, you will be able to purchase that underlying asset at the lower fixed price as long as you exercise the option on or before the expiration date. The second reason is that if the underlying asset increases in price, the value of the option will likely increase and the call could be sold at a profit before expiration. A call's profitability hinges upon whether or not the underlying asset's price increases fast enough to prevail over the time decay on the call.

It is important to realize that time and the volatility of an underlying asset also affects an option's value. As for time value, an option is considered a wasting asset because it begins to experience time decay from the moment it is purchased by the holder or sold by the writer until it expires.

Calls are also used to protect current holdings of the underlying asset as an alternative to the outright purchase of the underlying asset. Calls are also used to add some upside potential to an investor's portfolio while keeping the risk to a fixed currency amount.

The risk is a fixed currency amount because, although you do pay a price (a premium) to purchase the call and probably a commission, you will incur no other expenses unless you decide to exercise or sell the call. You can just let the call expire if the underlying asset decreases in price. On the other hand, the underlying asset could increase to any price, offering you an unlimited profit potential and you will have only incurred the premium paid to purchase the call. You must, of course, always consider any commissions you pay to open or exit a position.

In summary, a call holder is generally bullish on the underlying asset and benefits from an increase in price of the underlying asset. The call provides an unlimited profit potential and a known risk at a fixed currency amount-the amount paid for the call.