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I am a regular trader with stocks but I am a complete beginner with options. I am referring to a few online resources like here and here

However, I have a few questions.

Say I call a stock at $50 for a price of $5 for 30 days.

Now, based on my understanding I will pay a fee of $500 for the options trade - (cost is $5 and the call is generally for 100 shares)

  1. If within the first 10 days the stock reaches $60, Can I sell the sell the option and cash out ?

  2. How exactly am I charged for the options trade ? Continuing with the previous example, will I pay $500 upfront for the trade and at the end of 30 days, $1000 be deposited in my account? Or only the net profit/loss is deposited or withdrawn from the account at the end of 30 days ?

  3. If I call at $50 and the stock price never manages to reach that price in the given time frame then the order is just canceled and there is no transaction at all ?

  4. Multiple articles quote that you may be eligible for the option but you am not exercise the option. I am not really sure what that means.

Sorry if the question sounds too basic

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Say I call a stock at $50 for a price of $5 for 30 days. Now, based on my understanding I will pay a fee of $500 for the options trade - (cost is $5 and the call is generally for 100 shares)

Standard options are for 100 shares. Corporate events (some stock splits, special dividends, spin offs) result in non standard options. Non standard options can be a royal PITA.

Yes, you will pay $500 to buy the call plus a commission (unless you are trading commission free).

If within the first 10 days the stock reaches $60, Can I sell the sell the option and cash out? Continuing with the previous example, will I pay $500 upfront for the trade and at the end of 30 days, $1000 be deposited in my account? Or only the net profit/loss is deposited or withdrawn from the account at the end of 30 days ?

A long call gives you the right to buy the stock at the strike price. You also can sell the call to close any time you want.

If the stock is $60 within 10 days, it should be worth a minimum of $10 (its intrinsic value). If you sell it, you will receive $1,000 less a commission.

If an option is one cent or more in-the-money at expiration (at $60, yours is $10 ITM), the Option Clearing Corp (OCC) will automatically exercise all options whether they are long or short. This is called Exercise by Exception. If you do not sell to close your call, for equity options, you will end up with a long position in the underlying (with market risk). Index options are cash settled.

If I call at $50 and the stock price never manages to reach that price in the given time frame then the order is just canceled and there is no transaction at all ?

The time premium of your call is going to decay every day. It will be zero at expiration. If the stock is above $50 at expiration, your $50 call will be worth its intrinsic valie (stock price less the strike price). If it is below $50 at expiration, your call will expire worthless.

I would suggest that you pick up a copy of "Options as a Strategic Investment" by Lawrence G. McMillan. Read it. Then read it again. It is well written with many clear examples. Well under 100 pages or so will give you a fundamental understanding of covered calls, synthetically equivalent short puts and spreads. It also explains a variety of other option strategies and should they intrigue you, you can read more.

  • Thanks ! But what is In the money ? – john Mar 5 at 19:31
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    A call is in-the-money when the underlying's price is greater than the strike price. This is because because the owner of the call has the right to buy the stock below the current price. For a put, it's when the underlying's price is less than the strike price. – Bob Baerker Mar 5 at 19:40
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Buying a call option gives you a right to buy the stock (100 shares per option contract) at the strike price from now to expiration time (assume we're talking about American style, for European style it's only at expiration time).

Use your example, I assume you mean you buy a call option that has strike price $50, for $5/shares (therefore $500 for this contract), and the contract expires in 30 days. The stock is currently at $50/share.

If the stock reaches $60/share 10 days from now, you can either exercise your option (which means you use the right to buy 100 shares at $50/share, but you can immediately sell it to the market at $60/share, gives you net $1000) or sell your option (which means you sell this option contract to another trader in exchange for cash). Vast majority of the time, if you want to cash out before expiration, you should sell instead of exercise (In fact, for call option on non-dividend stock, it's all of the time). In your example, if volatility, rate and other factors don't change, this option contract will worth about 1120 dollars ($11.2/share) when stock is at $60/share and 2/3 month to expiration.

Option pricing theory is complicated, fyi look at this.

If you buy this option and hold it until expiration, your broker will settle for you (detail rules may depend on broker). If at expiration day the stock is closed at or below $50, the option contract will just disappear from your account because now it's worthless. If the stock closed above $50/share, your broker will exercise for you, take $5000 cash from your account and gives you 100 shares of the stock (it might make your account temporarily have negative amount of cash - one reason you need a margin account to trade option even if you don't intend to borrow any money). If you feel too much headache dealing with this, an easier alternative is to just sell your option ("close your position") at the expiration day before the market closed!

  • okay .. so the 2 options are either exercise the option and buy the shares or sell the option itself to some other trader. I guess if the stock price has increased then I can get a higher price when I sell the option ? That was helpful. Thanks – john Mar 5 at 19:34
  • Options are a decaying security. Every day they lose a portion of the time value In order to get a higher price for the call, your call's increase in premium due to share price appreciation must exceed the loss of extrinsic value (time premium). So if stock price increases, maybe you get a higher price when you sell, maybe not. Per your example, if you pay $5 for a $50 strike call with the stock at $50, your expiration break even is $55. OTOH, all things being equal, if the stock went to $55 tomorrow, you'd have a $3 profit. Options are complex. Read the book :->) – Bob Baerker Mar 5 at 19:49
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Bob Baerker's answer is good. But to start with something even more basic: Your confusion may be starting when you write, "Say I call a stock". You may be thinking of an option as an order type. Rather, it is an asset you can buy and sell at a market value. So instead think, "Say I buy a call on a stock". You pay the money and you get the call.

The option (here call) is related to, but distinct from, the stock (the underlying asset). The value of the option comes from its contractual terms, that it gives the holder the right to buy (or sell) the underlying from the writer at the stated price (strike) by the stated date (expiration). (Each different strike-expiration pair is a different asset with its own bid/ask, volume, etc.) Everything else follows from this plus math.

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