Stock Option Definitions

Basic Option Terminology

See options glossary below for stock option definitions and basic option terminology.

CALL - an option which gives the holder the right to purchase 100 shares of stock per contract at a specific (strike) price by a set date.

PUT - an option which gives the holder the right to sell 100 shares of stock per each contract at a specific (strike) price by a set date.

WRITE - Writing an option, Selling an option (Sell to Open, that is--Sell to Close entails something different), and being Short an option are all the same thing. When you write a put, for example, you are in effect writing a contract that gives someone else the right to sell their stock to you at a specific price (presumably lower than the current price). You’ve essentially written an insurance policy for a stock and sold it to someone.

BUY/SELL TO OPEN - when you initially open an option position, you can either go long (i.e. Buy to Open - either calls or puts) or short (i.e. Sell to Open - either calls or puts). The important distinction here is that you've opened or initiated a transaction.

BUY/SELL TO CLOSE - you can also close out an open position prior to expiration/assignment by making an opposite or offsetting transaction. If you previously bought calls or puts to open, you would now sell them back to close the position. Likewise, if you originally sold to open (or wrote) calls or puts, you would now buy them back to close the position.

LONG vs. SHORT (BUYING vs. SELLING) - a position is either Long or Short, as in a long call/long put or short call/short put. Long means you purchased the options, and Short means you sold or wrote the options. Long positions get exercised and Short positions get assigned. Long and short in the world of options have nothing to do with in which direction you hope the stock will move.

LEG - fancy name for part (well, maybe not that fancy, unless you live in a torso-dominant world). Simply buying a long call or long put is a single leg transaction. Other strategies, such as spreads, are constructed from multiple legs which in turn may consist of any number of combinations of long and short calls and puts at various strike prices and with various expiration dates. These variables all depend upon your specific trade and objective.

For the daring and/or nimble optioneer, LEG can also be used as a verb. Instead of setting up all legs of the trade at the same time, for instance, you can choose to leg into them over time as market conditions change in an attempt to gain an additional advantage in the trade (a bit risky, of course, since you could just as easily put yourself in a worse spot).

NET DEBIT vs. NET CREDIT - Purchasing calls and puts obviously costs you money, while selling/writing calls and puts results in income coming into your brokerage account. NET DEBIT refers to those trades that cost you money to set up (and hopefully which will significantly increase in value during the life of the trade). NET CREDIT refers to those trades that bring in immediate cash upon implementing (most or all of which you will hopefully be able to retain after the life of the trade).

FOTM, OTM, ATM, ITM, DITM - common acronyms describing an option in relationship to the current share price of the underlying stock: far (or farther) out of the money, out of the money, at the money (or near the money), in the money, and deep in the money (note: WTFDITM is not an official designation but rather a personal expression of frustration when a short position has really moved against you). These are all relative terms, relative to the strike price of the type of option that you own (call or put) and whether it's long or short (whether you purchased it or sold/wrote it):

• Any option is ATM when the strike price is equal (or very close) to the current price of the stock.
• For call options, ITM means that the strike price is less than the current stock price, and OTM means that the strike price is greater than the current stock price.
• For put positions, ITM means that the strike price is greater than the current stock price, and OTM means that the strike price is less than the current stock price.
• ITM represents intrinsic value--if you're long an option, that value belongs to you; if you're short an option, that value is technically a liability on your side.
• DITM and FOTM are relative terms, signifying that the strike price is significantly farther away from the current price than their ITM and OTM counterparts.

EXPIRATION DATE/CYCLE - The Saturday following the third Friday of each month is options expiration day. But since the markets are closed on Saturdays, for all practical purposes, expiration day is that third Friday. Most cycles are four weeks, but about every third one is five weeks long (12 months x 4 weeks = 48 weeks; 52 weeks = 1 year).

The expiration cycle itself will vary by individual stock. Optionable stocks will always have at least four expiration months available in which to buy and sell options. The first two are always the current month and the next month. Depending upon one of three specific cycles, the other two expiration months will occur various months in future quarters.

Additionally, some stocks trade LEAPs (Long-Term Equity AnticiPation Securities). These longer term options have expiration months anywhere from nine months to 2 1/2 years, and always expire in January.