An option is a contract to buy or sell a specific
financial product at a specific price within a preset period of
time. Options belong to a category of financial instruments known
as
derivatives,
because their prices reflect the value of the item underlying
the contract — called the
underlying
investment,
underlying interest, underlying instrument,
or sometimes simply the underlying. You can buy or sell options
on individual stocks, stock indexes,
futures
contracts,
currencies, and Treasury security interest
rates.
Buying and selling options contracts does not
transfer ownership the way buying and selling stocks does. Rather,
buying an options contract gives you the right to buy or sell
the underlying instrument at the price the contract specifies
before the
expiration
date.
Selling a contract obligates you to buy or
sell the underlying investment at the specified price if the contract
is exercised. After the contract expires, it no longer has any
value.
A range of options
Options are extremely versatile investments, and
while they're not appropriate for everyone, different investors
use them in very different ways. For instance, conservative investors
may use options to limit risk by ensuring they have the right
to sell at an acceptable price. Speculative investors, on the
other hand, like the
leverage
that options can provide, since there's the potential to
realize large gains without committing capital to the underlying
investment. But this strategy can be very risky as well, since
losses may be magnified to the same extent.
