# Trading Options (Call on Robinhood App)

In the attached image you will see the Robinhood app shows that if I purchase the Call I will "have the right" to "purchase" 100 shares.

Does this mean I have to have the funds to purchase the 100 Shares × Share Price (\$12.50?)

I don't have \$125,000.

If the stock reaches \$15, what do I do to make a profit?

Do I instantly make the profit or does someone have to buy my call or put?

• \$1,250 not \$125,000 Mar 13, 2018 at 22:53

You profit because the value of the contract will increase with increase in price of the underlying asset (a share in this case) and you sell the contract before you have to actually execute it.

Immediate Pricing Analysis

Let's examine the current pricing of some of call options available right now for Ford stock. What if you buy your contract, then you buy your shares 100 shares at the strike price and you sell them immediately on the open market at \$10.78 per share.

`````` Contract Price            \$5.45           \$0.85           \$0.43          \$0.15

Contract Cost x100      \$545.00          \$85.00          \$43.00         \$15.00

Strike Price              \$5.50          \$10.00          \$10.50         \$11.00

Share Cost x100         \$550.00       \$1,000.00       \$1,050.00      \$1,100.00

Buy 100 shares        \$1,095.00       \$1,085.00       \$1,093.00      \$1,115.00

Sale 100 shares       \$1,078.00       \$1,078.00       \$1,078.00      \$1,078.00

Profit(Loss)            (\$17.00)         (\$7.00)        (\$15.00)       (\$37.00)
``````

So right now the contracts are priced such that you'll lose money if you could simply transact, this is normal. In this situation where the underlying asset is about \$10 and the contracts are priced in pennies, the variance in the result is largely due to the low cost of the contracts, if you were looking at options for Apple the variance will be much lower, but there it is.

Note the \$11 strike contract, the loss widens noticeably when you go "out of the money" so this option carries an immediate loss of \$37 because your strike price is out of the money by \$0.22 (\$11 strike price - \$10.78 share price). Taking this in to account there's a loss of \$15 (\$37 - \$22) which is in line with the immediate loss priced in to the other option contracts.

Where is the profit?

So how do you make money trading options contracts? So let's say you buy the \$11 strike option priced at \$0.15 for \$15. Fast forward a few weeks and Hooray, the price of F is \$12 when your contract is ready to exercise.

`````` Contract Price            \$0.15

Contract Cost            \$15.00

Strike Price             \$11.00

Share Cost            \$1,100.00

Total Cost            \$1,115.00

Sale 100 shares       \$1,200.00

Profit(Loss)             \$85.00
``````

Your profit is \$85 on your investment of \$15 which is a return of +467%.

But, to your point, what if you just want to transact the contract. If a share of F is currently trading at \$12, an option to buy at \$11 will have that \$1 profit per share accounted for in it's price. Theoretically at a share price of \$12, the \$11 strike contract will be priced at about \$1 per share (plus a little to account for costs, as illustrated in the table above). So simply looking at the price change in the value of the contract it looks something like this:

``````  Strike Price              \$11.00

Buy Cost           \$0.15 x 100 =  \$15.00

Sell Price         \$1.00 x 100 = \$100.00

Profit             \$100 - \$15  =  \$85.00
``````

So just like the example above your profit should be just about the same \$85. Also just like above when we looked at the immediate transactability of the various options, as in the example of the \$5.50, \$10 and \$10.50 strike prices the detla between the strike price and the current price was present in the price of the contract, the contract will have the \$1 of profit built in to the price.

So why options?

Had you just bought 100 shares of Ford for \$11 per share you would have an investment of \$1,100. That's very different from your investment of \$15. Had you then sold at a price of \$12, you'd make \$100 (\$1,200 - \$1,100) for a gain of 9%; again a lot different than the gain of 467%. You get 100x the exposure. But what if you have a strike price of \$11 and the value of a share of F on the day of expiration is \$10.78, your contract is worth \$0. That's a loss of 100%, you lost \$15 on your \$15 and have nothing to show for it. Had you bought the shares your position would be worth \$1,078 for a paper loss of 2%. Your 100x exposure comes at a cost and much higher likelihood of total loss.

I hope this helps to clarify how options works. It's good that you're learning about this before blindly putting up money.

• Thank you for you answer. So I dont have to put \$125,000 to buy the 100 shares and I have to sell the contract. If no one buys it then what happens? Mar 13, 2018 at 22:47
• There is always a buyer for an in-the-money option. If it's out of the money, it expires worthless, if it's in the money there will be a buyer and your broker might automatically sell it before it expires if you don't have the requisite account balance and margin access to transact the contract.
– quid
Mar 13, 2018 at 23:04
• There may be a buyer for the option if it is ITM at expiration but there may be a haircut to pay. Mar 14, 2018 at 2:49
• @RolandoFonticoba, I've made some edits to expand on the math. Hopefully this is helpful.
– quid
Mar 14, 2018 at 3:16

For a standard option, you pay 100 times the ask price to purchase it. Your Apr 06 \$12.50 call is \$0.02 so the cost of one call will be a total of TWO DOLLARS, plus commission. That gives you the right to buy 100 shares @ \$12.50. Should share price rise and the call increases in price, you would simply sell it on the option exchange. You would not have to buy the shares.

The only way that you would have to buy the shares would be if F closed above \$12.50 at expiration (100 shares per call = \$1,250) and you failed to sell to close the option AND failed to notify your broker not to exercise your call. Due to "Exercise by Exception", the OCC will automatically exercise the contract and you will then buy the shares. Without the appropriate funds to buy the shares, you broker might sell the ITM call to close. I'd say that you should check with them to determine how they handle it but this shouldn't be allowed to occur since it's your responsibility to properly manage your positions.

A word of caution. Delta is an approximation of the probability that an option will expire in-the-money (in this case, above \$12.50). The delta of this call is about .04 which means that it has about a 4 percent chance of being profitable on April 6th. That's not exactly a good bet.

Second word of caution. You should spend some time learning about this before putting money at risk.

• Indeed, betting on a 16% move in 3 weeks is tough. My successful option trades are typically at least 12 months out. There’s nothing like being right on the direction, the magnitude, yet be wrong on timing. Long term calls have an element of investing. Short term is just gambling. Mar 13, 2018 at 23:52
• @JoeTaxpayer As a loose rule of thumb, for ATM options, premium is related to the square root of the time remaining (see option pricing formula). All else being equal, a 9 month option loses 1/3 of it's value in 5 months then another 1/3 of its value in the next 3 months and then the last 1/3 of value in the last month. IOW, because of the non linear decay rate, buyers should buy longer term and sellers should sell nearer term.. Mar 14, 2018 at 2:52

Do I instantly make the profit or does someone have to buy my call or put?

No, when the option expires you have the right to buy the shares for \$12.50. If the share price is above \$12.50 you would exercise that right.

If the stock reaches \$15, what do I do to make a profit?

Buy the shares for 1,250 and sell them for 1,500 for a gain of \$250. But you need to subtract out the \$2 premium you pay for the option (\$0.02 * 100 shares) for a new profit of \$1,498 (less any transaction costs).

• The info in the OP's screen shot is a little FUBAR. It's a two cent call not a \$2 call. Edit your reply if so inclined. Mar 14, 2018 at 2:54
• I made the same mistake when I read the OP's post the first time. I scratched my head and thought, this is crazy, a deep OTM call on a \$10 stock selling for \$2. What gives? LOL Mar 14, 2018 at 3:04

Suppose that come April 6 the stock trades for \$13.00. If that happens, someone who owns the option and has \$1,250 (not \$12,500) to play with will get the opportunity to demand the shares for that price and immediately sell them in the market for \$1,300, making a profit of \$50 with very low risk.

If you don't have \$1,250 available to do that, surely there'll be someone somewhere who has, who would be willing to pay you close to \$50 for the option on the day so they can do it. The option itself is a negotiable security, so you just sell it to the highest bidder. That way you won't be out of pocket more than what you paid to buy the option in the first place.

Heck, if nobody else, then the guy who issued the option in the first place would probably be willing to buy it back from you for \$49, lest you find someone else to buy it who will cost them \$50.

(All of this assumes that the stock does trade for \$13 on the exercise date, of course. As others have remarked, that doesn't seem likely).

• Thank you for the replies. This is not an actual trade I'm willing to do. I just did this to take a screenshot and get an answer to the "right to buy". Its what I dont understand and Im trying to learn before I risk the money. I'm still confused. I'm thinking that the only way to make anything more than the \$2 is to have enough funds for to buy the 100 contracts. Robinhood isnt your typical broker, they don't charge commissions, so I dont know if they will do what some suggest. Mar 14, 2018 at 0:32
• Exercising the long call in order to book the profit involves extra frictional costs so STC the call. Where this falls apart is where the option is very deep ITM and it is quoted below parity (bid price < intrinsic value). Then, exercising and selling the underlying makes sense in order to avoid the haircut. Mar 14, 2018 at 3:00