- What Is an Option?
- Are There Different Kinds of Options?
- Who Are the Parties to an Options Contract?
- What Are the Risks Associated With Trading Options?
- What Should I Do if I Have Experienced Losses Trading Options at the Recommendation of My Broker?
An option is a contract that gives an investor a right but not an obligation to buy or sell an asset at a specified price within a specified period. Generally, Options allow investors to speculate on the price movement of an asset, such as a stock, commodity, or currency
There are two types of option contracts: call options and put options. A call option gives an investor the right to buy an asset at a specified price. The obligation in a call option falls on the seller but not the buyer. A put option gives an investor the right to sell an asset at a specified price. The obligation in a put option falls on the buyer but not the seller.
There are two parties: the writer and the holder. A call or put holder is the party that buys the option. They are not obligated to buy or sell the shares. This party pays the option fee, but they carry less risk in the contract. A call or put writer is the party that sells the option. They receive the option fee from the buyer, but they carry more risk in the contract because they are obligated to buy or sell shares if the buyer exercises their option.
The risk you carry depends on your position in the option contract, but can include:
Loss of Option Fee: If the buyer does not exercise their right by the expiration date, the buyer’s right expires, and they have lost the fee paid for the option.
Limited Timeframe: Options have an expiration date, so the buyer must make a decision before this deadline or lose their right to buy or sell the underlying asset.
Potential Counterparty Default: Like any contract, there is the risk that the other party will fail to perform their obligation. If the seller does not buy or sell the asset as agreed upon exercise of the right, the buyer will have to undergo paths for recourse.
Unlimited Losses: The price of the underlying asset might move significantly against the seller’s position in the contract. Whereas the buyer’s loss is limited to the option fee, there is no limit on the amount a seller can lose if the asset price is much higher or lower than anticipated.
Obligation to Buy or Sell: The buyer has no obligation to exercise their right, but the seller is obligated to buy or sell upon the buyer’s exercise. If asset prices do change significantly, the seller cannot avoid their obligation without defaulting on the agreement.
Limited Profit: The seller is only paid the option fee, so their profit is limited to the option fee.
If you believe your financial advisor failed to explain the risks of investing in options prior to making a recommendation, we encourage you to contact the Securities Attorneys at Malecki Law to discuss your case and to evaluate if any of your losses can be recovered.