What is the Call Option Contract?
The buyer has the right, but not the obligation, to purchase 100 shares of stock at a predetermined price at any point before expiration.
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OK, enough with formal definitions, let’s look at the analogy to better understand a call option contract. For example; an option contract in real estate between the current real estate owner and a prospective real estate buyer.
Let’s assume the owner has a property that is fairly valued at $100,000. It is in an up and coming real estate area. The owner does not want to sell the house at this price and therefore takes the home off the market. The owner would, however, like to sell if the price would increase to $110,000.
The second party in this example is a real estate investor. He believes that prices in this area will rise in value, but there is a limited supply of houses for sale. The investor, therefore, requests to buy an option from the homeowner. The option will give him the right to buy the house at $110,000 target price from the owner at any point during the next 2 years.
From the owners perspective, this is a compelling offer. Because she is targeting to sell when the home reaches $110,000 in value. Additionally, the owner gets to collect additional money from the option contract. She keeps this money whether the investor exercises his right of the option contract in the next two years or not.
After a few iterations, the buyer and seller agree on an option price of $2000. The investor gives the current homeowner $2000. And the owner gives the investor the option contract.
Let’s fast-forward two years and look at 4 different scenarios:
To relate this example back to a standard options contract:
At OptionAutomator we focus on strategies of the homeowner and cater to the real estate investor (speculator). There’s a very simple reason why. Because in 3 out of the 4 scenarios above, the homeowner made out better than the speculator.
While the speculator can occasionally walk away with a big payday, this is, by definition, an abnormal market move. We’ll discuss more on probabilities and how we can predict the probability of a trade later on. However, it is not how we should trade regularly.
OptionAutomator will help you trade regularly and consistently. We encourage our users to engage regularly and consistently in the higher probability trades.
Apply your what you've learned with related Brutus Options Ranker components (Templates, Critieria, Market Groups, and Setups)