About an Options Contract and its Components

An option is a contract that conveys to its holder the right, but not the obligation, to buy or sell a fixed amount of the underlying asset at a specified price on or before a given date. The underlying asset is the security, commodity, or other financial instrument on which the options contract is based, and is the asset that one has the right to buy or sell. The option symbol represents an actual options contract.

The options contract is a financial instrument, termed a derivative, and can be traded itself. It is termed a derivative because the options contract derives its price and value from the underlying asset on which it is based, and this value can fluctuate as the price of the underlying asset rises or falls. The options contract value is also affected by other market conditions. These conditions could be a change in volatility due to sudden fluctuations in the price of the underlying asset, stock splits, dividends, rumors, or news.

An options contract is most commonly referred to as just an "option," meaning the actual contract (financial instrument) that is being traded. Options vary somewhat depending on the type of underlying asset. For instance, futures options, based on a futures contract, have different strike prices and expiration date rules than stock options. In fact, each kind of option will have its own expiration date rules, strike prices, and fixed amount of the underlying asset per contract unit.

A stock option is probably the easiest option to understand. Each stock options contract unit bought or sold represents 100 shares of the underlying stock; the expiration date is always the third Friday of the expiration month. The strike prices of each options contract are traded in increments of $2.50, $5.00, or $10.00, depending upon the price level of the stock. Each futures options contract is based on the underlying futures contract, and varies from contract to contract. Knowing the correct expiration date rules, strike prices, and contract information is crucial to trading options successfully. If you are unsure of some of this information, you can obtain this information from the symbol properties, from the exchanges where the applicable options are listed, or from your brokerage firm.