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If youâ??re interested in trading options, you need to understand the difference between the two major typesâ??calls and puts.
First, letâ??s review how options work. An option is a contract. It gives you the rightâ??but not the obligationâ??to buy or sell an asset at a specific price before a certain date.
As I mentioned, there are two types of options. One is the call option. It gives you the right to buy an asset at a certain price by a certain date.
That may seem complicated, so letâ??s look at an example.
Say you think a particular stock, which is currently trading at $100 a share, is going to skyrocket, but youâ??re short on cash at the moment.
So, you buy a call option on that stock for $1,000. It lets you buy 100 shares of the stock at $100 each anytime within the next three months.
As you predicted, the stock goes through the roof, hitting $1,000 a share. But guess what? You have a contract. Someone has to sell you the stock for $100 a share.
So, you borrow the cash, buy the stock for $100 share, and promptly sell it for $1000 a share. Your profit: $900 per share, or $90,000, minus the cost of the option contract.
So, to sum up, call options are similar to owning stock. You would buy a call option on a stock if you think the stock will increase in value before the option expires.
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