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Option Trading for Rookies, Session I: Option Trading Terminology

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Option Trading for Rookies, Session I:

Option Trading Terminology

Disclaimers

 Options involve risks and are not suitable for all investors. Prior to buying or selling options, an investor must receive a copy of Characteristics and Risks of Standardized Options, sent to you in previous communication. Additional copies

may be obtained by calling TRADEKING at (877) 495-KING visiting

www.tradeking.com/ODDor by downloading the file from the recourses tab on your screen.

 System response and access times may vary due to market conditions, system performance, and other factors. Margin trading involves risks and is not suitable for all accounts.

 Market timing is a complex investment strategy which involves risk and may incur additional commission costs.

 Multiple leg options strategies involve additional risks and multiple commissions, and may result in complex tax treatments. Please consult a tax advisor as need.

 All investments involve risk, losses may exceed the principal invested, and the past performance of a security, industry, sector, market, or financial product does not guarantee future results or returns.

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Disclaimers

 Any strategies discussed and examples using actual securities and price data are strictly for illustrative and educational purposes only and are not to be construed as a recommendation, or solicitation to buy or sell securities.

 Consider the following when making an investment decision: your financial situation, your risk profile and transaction costs. You alone are responsible for evaluating the merits and risks associated with the use of TradeKing’s systems, services or products.

 The projections or other information generated by TradeKing's tools regarding the likelihood of various investment outcomes are hypothetical in nature, do not reflect actual investment results and are not guarantees of future results.

 © 2014 TradeKing Group, Inc. All rights reserved.

 Securities offered through TradeKing, LLC, member of FINRAand SIPC.

Option Trading for Rookies, Session I:

Option Trading Terminology

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Audio Help: 866-569-3239 Speakers: M. Kahn

and B. Overby

Speaker: Brian Overby Audio Help: 866.229.3239 5  Options are contracts:

 Giving the owner the right to buy or sell an asset at a fixed price for a specific period of time

 And, obligating the seller to take the opposite side if and when the right embedded in the option contract is

exercised by the owner.

What Are Options?

Examples

XYZ January 70 Call at $3.10

ABC February 35 Put at $1.20

 Calls are options to buy a stock.

– The buyer obtains the right (but not the obligation) to purchase the underlying stock.

 Puts are options to sell a stock.

– The buyer obtains the right (but not the obligation) to sell the underlying stock.

Call or Put

Examples

XYZ January 70 Call at $3.10

ABC February 35 Put at $1.20

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Audio Help: 866-569-3239 Speakers: M. Kahn

and B. Overby

Speaker: Brian Overby Audio Help: 866.229.3239 7  Long – Implies you bought an option contract.

– When you’re talking about options and stocks, “long” implies a position of ownership. After you have purchased an option or a stock, you are considered "long" that security in your account.

 Short – Implies you sold an option contract that you didn’t own.

– If you’ve sold an option or a stock without actually owning it, you are then considered to be “short” that security in your account.

Long or Short

Examples

Bought – Long XYZ January 70 Call at $3.10

Sold – Short ABC February 35 Put at $1.20

 Options are customarily on one underlying.

 Stock options ordinarily represent 100 shares of the underlying stock.

– Exceptions to the norm are usually caused by corporate actions and stock splits.

Underlying

Examples

XYZ January 70 Call at $3.10

ABC February 35 Put at $1.20

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Audio Help: 866-569-3239 Speakers: M. Kahn

and B. Overby

Speaker: Brian Overby Audio Help: 866.229.3239 9  The pre-determined price at which the underlying asset

will be bought or sold should the option be exercised.

 In the listed options marketplace the strike prices are standardized.

– Stocks priced between 0 – 25, intervals of 2 1/2

– Stocks priced between 25 – 200, intervals of 5

– Stocks priced greater than 200, intervals of 10

• Many exceptions to these guidelines.

Strike Price

Examples

XYZ January 70 Call at $3.10

ABC February 35 Put at $1.20

 The price of the option.

 Paid by buyer; received by seller.

 The price is multiplied by the number of shares the contract represents, generally 100 shares.

 $3.10 option actually costs 100 x 3.10 or $310

Premium

Examples

XYZ January 70 Call at $3.10

ABC February 35 Put at $1.20

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Audio Help: 866-569-3239 Speakers: M. Kahn

and B. Overby

Speaker: Brian Overby Audio Help: 866.229.3239 11  Stock options can be exercised on any business day up

to expiration

 Usually American-style stock options expire on the Saturday following the third Friday of each month.

– Some exceptions to this rule also.

 The last day they can be exercised or traded is the third Friday of the month.

 PM Settlement.

Expirations – American Style

Examples

XYZ January 70 Call at $3.10

ABC February 35 Put at $1.20

Exercise:

 to invoke the right contained in an option contract Assignment:

 to be required to fulfill the obligation

Exercise & Assignment Defined

Buyers pay cash and receive a benefit The ability to exercise

Sellers receive cash and have a obligation May be assigned

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Audio Help: 866-569-3239 Speakers: M. Kahn

and B. Overby

Speaker: Brian Overby Audio Help: 866.229.3239 13

Right to

buy

Right to

sell

CALL

PUT

Obligation

to buy

Obligation

to sell

Buyer

(long)

Seller

(short)

Four Basic Positions

In’s and Out’s for Call Options

60 Strike Call Option Stock Price

50

55

60

65

70

In-The-Money

Out-Of -The-Money

At-The-Money

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Audio Help: 866-569-3239 Speakers: M. Kahn

and B. Overby

Speaker: Brian Overby Audio Help: 866.229.3239 15 Calls:

 If I exercised the call first and then sold stock at the market, would I get anything?

In- At- or Out-of-the-money?

Question:

Stock at 23 on expiration, Currently - Long 20 Call, this option is considered…. a) ITM

b) OTM

Get $3 per share.

In’s and Out’s for Put Options

80 Strike Put Option Stock Price

At-The-Money

In-The-Money

Out-Of-The-Money

70

75

80

85

90

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Audio Help: 866-569-3239 Speakers: M. Kahn

and B. Overby

Speaker: Brian Overby Audio Help: 866.229.3239 17 Puts:

 If I bought stock at the market first and then exercised the put, would I get anything?

In- At- or Out-of-the-money?

Question:

Stock at 74 on expiration, Currently - Long 75 Put, this option is considered…. a) ITM

b) OTM

Puts:

 If I bought stock at the market first and then exercised the put, would I get anything?

In- At- or Out-of-the-money?

Question:

Stock at 74 on expiration, Currently - Long 75 Put, this option is considered…. a) ITM

b) OTM

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Audio Help: 866-569-3239 Speakers: M. Kahn

and B. Overby

Speaker: Brian Overby Audio Help: 866.229.3239 19 Stock Price 36

Strike Price - 30 Intrinsic Value 6

Intrinsic & Time Value

Options Price 7 Intrinsic Value - 6 Time Value 1 30 Strike Call @ 7 Stock Price @ 36

Intrinsic & Time Value

Stock Price ? Strike Price - ? Intrinsic Value ? Options Price 2.00 Intrinsic Value - ? Time Value ? 30 Strike Call @ 7 Stock Price @ 36 2.00 35

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Audio Help: 866-569-3239 Speakers: M. Kahn

and B. Overby

Speaker: Brian Overby Audio Help: 866.229.3239 21  Option Volume

– Option volume is the number of option contracts that have traded within a day.

 Open Interest

– Open interest is the number of outstanding option contracts of a particular strike price and expiration date that have been bought or sold to open a position. An opening transaction increases open interest and a closing transaction decreases it. Open interest is calculated at the end of each business day.

Volume and Option Interest

Examples

XYZ January 70 Call at $3.10

ABC February 35 Put at $1.20

 Sell to close or buy to close

 Exercise or accept assignment - Shares are exchanged at the

pre-determined price (strike)

 Let expire (worthless)

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Audio Help: 866-569-3239 Speakers: M. Kahn

and B. Overby

Speaker: Brian Overby Audio Help: 866.229.3239 23  There are quite a few differences between options based on an

index versus those based on stocks.

– First, index options typically can’t be exercised prior to expiration, whereas stock options typically can.

– Second, the last day to trade most index options is usually the Thursday before the third Friday of the expiration month. But the last day to trade stock options is the third Friday of the expiration month.

– Third, index options are cash-settled, but stock options result in stock changing hands.

 Note: There are several exceptions to these general guidelines about index options. If you’re going to trade an index, you must take the time to understand the option contract characteristics.

Index Options vs. Stock Options

Option Trading for Rookies Next Session

An Introduction to Option Pricing

Thursday, November 13th

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TradeKing’s Trader Network http://community.tradeking.com

Member FINRA & SIPC Twitter.com/TradeKing

Twitter.com/BrianOverby Facebook.com/TradeKing Youtube.com/TradeKing

Linkedin.com/company/TradeKing

Discuss options trading with me via:

http://optionsguy.tradeking.com

Twitter.com/BrianOverby Twitter.com/TradeKing

To learn more about option strategies:

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Option Trading for Rookies, Session I:

Option Trading Terminology

Homework

Option Mechanics I

Stock @ Exp. Stock Position Option Position Exercise Assigned Expires Ending Position (long, short cash, zero) 47 _ _ _ Long 1 50 Call 116 _ _ _ Long 1 120 Put 88 _ _ _ Long 1 90 Call

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Option Mechanics I

Stock @ Exp. Stock Position Option Position Exercise Assigned Expires Ending Position (long, short cash, zero) 47 _ _ _ Long 1 50 Call 116 _ _ _ Long 1 120 Put 88 _ _ _ Long 1 90 Call Expires 0

-Option Mechanics I

Stock @ Exp. Stock Position Option Position Exercise Assigned Expires Ending Position (long, short cash, zero) 47 _ _ _ Long 1 50 Call 116 _ _ _ Long 1 120 Put 88 _ _ _ Long 1 90 Call

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Option Mechanics I

Stock @ Exp. Stock Position Option Position Exercise Assigned Expires Ending Position (long, short cash, zero) 47 _ _ _ Long 1 50 Call 116 _ _ _ Long 1 120 Put 88 _ _ _ Long 1 90 Call

Option Mechanics I

Stock @ Exp. Stock Position Option Position Exercise Assigned Expires Ending Position (long, short cash, zero) 47 _ _ _ Long 1 50 Call 116 _ _ _ Long 1 120 Put 88 _ _ _ Long 1 90 Call

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Option Mechanics I

Stock @ Exp. Stock Position Option Position Exercise Assigned Expires Ending Position (long, short cash, zero) 47 _ _ _ Long 1 50 Call 116 _ _ _ Long 1 120 Put 88 _ _ _ Long 1 90 Call

Option Mechanics II

Stock @ Exp. Stock Position Option Position Exercise Assigned Expires Ending Position (long, short cash, zero) 71 Long 300 Shares Short 3 65 Calls 34 _ _ _ Long 1 25 Put 42 _ _ _ Long 1 40 Call

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Option Mechanics II

Stock @ Exp. Stock Position Option Position Exercise Assigned Expires Ending Position (long, short cash, zero) 71 Long 300 Shares Short 3 65 Calls 34 _ _ _ Long 1 25 Put 42 _ _ _ Long 1 40 Call Stock @ Exp. Stock Position Option Position Exercise Assigned Expires Ending Position (long, short cash, zero) 71 Long 300 Shares Short 3 65 Calls 34 _ _ _ Long 1 25 Put 42 _ _ _ Long 1 40 Call

Option Mechanics II

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Option Mechanics II

Stock @ Exp. Stock Position Option Position Exercise Assigned Expires Ending Position (long, short cash, zero) 71 Long 300 Shares Short 3 65 Calls 34 _ _ _ Long 1 25 Put 42 _ _ _ Long 1 40 Call

Option Mechanics II

Stock @ Exp. Stock Position Option Position Exercise Assigned Expires Ending Position (long, short cash, zero) 71 Long 300 Shares Short 3 65 Calls 34 _ _ _ Long 1 25 Put 42 _ _ _ Long 1 40 Call

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Option Mechanics II

Stock @ Exp. Stock Position Option Position Exercise Assigned Expires Ending Position (long, short cash, zero) 71 Long 300 Shares Short 3 65 Calls 34 _ _ _ Long 1 25 Put 42 _ _ _ Long 1 40 Call

Option Mechanics III

Stock @ Exp. Stock Position Option Position Exercise Assigned Expires Ending Position (long, short cash, zero) 46 _ _ _ Long 5 40 Calls & Short 5 50 Calls

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Option Mechanics III

Stock @ Exp. Stock Position Option Position Exercise Assigned Expires Ending Position (long, short cash, zero) 46 _ _ _ Long 5 40 Calls & Short 5 50 Calls

Option Mechanics III

Stock @ Exp. Stock Position Option Position Exercise Assigned Expires Ending Position (long, short cash, zero) 46 _ _ _ Long 5 40 Calls & Short 5 50 Calls

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Option Trading for Rookies, Session I:

Option Trading Terminology

Thank You for Your

Participation

References

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