MTStock Studio/Getty Images; Illustration by Austin Courregé/Bankrate
Strike price and exercise price are both terms for the price at which you can buy or sell an underlying security in options trading. Both refer to the security price you locked in when you purchased the option, and investors use both terms interchangeably. However, a security could have multiple options with different strike (exercise) prices.
What does the strike price or exercise price mean?
To answer that, we first have to understand options. An option grants you the right, but not the obligation, to buy or sell a security (which could be a stock or other asset) at a specific price before a specific date. Investors use options to potentially increase their gains or to hedge risk, and the options lose all value if not used before the expiration date.
When you’re trading options, the strike or exercise price is the price at which you can buy or sell the underlying security. When you do make use of the option contract to buy or sell the stock, it’s called exercising your option. Traders use both strike price and exercise price to refer to the same thing: the specific price on your options contract.
The two most common types of options are call options and put options. To be “in the money” with a call option, the price of the underlying asset must rise above the strike price before the option expires. A put option, on the other hand, is in the money when the stock price falls below the exercise price.
A stock’s option chain lists potentially hundreds of different contracts at various strike prices and sometimes dozens of expirations. So some options are in the money or out of the money at all times.
Remember, the strike price is not the same as the price you pay for the option contract itself. That’s called the premium. For instance, an option contract might have a $1 per share premium and a strike price of $50. For 100 shares (the typical amount in an options contract) you’d pay $100 to buy the option. You’ll want to deduct the cost of the premium when calculating your potential gains.
Options can be a particularly lucrative way to trade in the financial markets. Here are five option strategies for beginners.
— Bankrate’s James Royal, Ph.D., contributed to an update of this article.
Editorial Disclaimer: All investors are advised to conduct their own independent research into investment strategies before making an investment decision. In addition, investors are advised that past investment product performance is no guarantee of future price appreciation.
Read the full article here
