Options Terminology Part 1

So now let’s just convert the previous examples into Options-talk.

The insured party wanted protection against prices rising, thus we talk about a Call Option. The insurer wrote an insurance policy to the insured party. He, therefore, wrote a Call Option or we can say he sold a Call Option to the insured party. In options trading, this is also referred to as “shorting a Call”.

The insured party who bought a Call option from the Insurer, “went long a Call” and the price level for which he got insurance was 77.  We call that the Strike Price of the option (the agreed upon price for the insurance policy). The insured party paid a non-refundable Premium to the insurer for the option which will expire after six months – it is therefore only valid for six months.

The insured party could, however, decide at which price he wanted to get protection for – it did not have to be 77. He could instead have opted for an insurance policy to protect himself against a price of 76, 75, 78, or 79 – it was his choice at which “Strike Price” he wanted protection for. He could also have chosen the amount of time for which he wanted protection – in other words, he could have decided on the option Expiry Date.

Can you start to make sense of the analogy above? Let us standardize the terminology used.

In order to standardize the terminology and to avoid confusion, we ALWAYS look at things from the PERSPECTIVE OF THE BUYER.