Learning works best on larger screens

---

id: option-terminology title: Option Terminology summary: The essential vocabulary you must master before placing any trade. outlook: neutral tags:

• basics
• foundations
• glossary

---

Learning goals

By the end of this lesson you should be able to:

• Read any option chain fluently without confusion.
• Define every term in a basic options quote with precision.
• Distinguish between contract terms, pricing terms, and risk terms.
• Explain moneyness (ITM, ATM, OTM) with mathematical definitions.
• Understand the difference between intrinsic and extrinsic value.

Contract terms: what defines the option

Every option contract has five essential components:

1. Underlying

The asset the option is based on—usually a stock or ETF.

Example: AAPL, SPY, QQQ

2. Strike price ($K$)

The fixed price at which you can buy (call) or sell (put) the underlying.

$K = \text{Strike price (fixed at contract creation)}$

3. Expiration ($T$)

The last date the option can be exercised. After this date, the contract ceases to exist.

Standard equity options expire on the third Friday of the month.

4. Premium

The price paid to buy the option, quoted per share.

$\text{Total cost} = \text{Premium} \times \text{Contract size}$

5. Contract size

Standard U.S. equity options control 100 shares.

Option type: calls and puts

• Call: right to buy the underlying at strike $K$
• Put: right to sell the underlying at strike $K$

These are the two fundamental building blocks. Every options strategy is built from calls, puts, or both.

Position direction: long vs short

• Long (bought): you paid premium, you have a right
• Short (sold): you received premium, you have an obligation

Moneyness: where is price relative to strike?

Moneyness describes the relationship between current spot price ($S_0$) and strike ($K$).

For calls:

• In-the-money (ITM): $S_0 > K$ — has intrinsic value
• At-the-money (ATM): $S_0 \approx K$ — near the strike
• Out-of-the-money (OTM): $S_0 < K$ — no intrinsic value

For puts:

• In-the-money (ITM): $S_0 < K$ — has intrinsic value
• At-the-money (ATM): $S_0 \approx K$ — near the strike
• Out-of-the-money (OTM): $S_0 > K$ — no intrinsic value

Value components: intrinsic vs extrinsic

Intrinsic value

The value if exercised right now.

$\text{Call intrinsic} = \max(S_0 - K, 0)$ $\text{Put intrinsic} = \max(K - S_0, 0)$

Extrinsic value (time value)

Everything above intrinsic value—the "hope premium."

$\text{Extrinsic} = \text{Premium} - \text{Intrinsic}$

At expiration, extrinsic value goes to zero.

Example calculation

Stock at $105, call strike$100, premium $7.50:

• Intrinsic: $\max(105 - 100, 0) = 5$
• Extrinsic: $7.50 - 5 = 2.50$

Order book terms: reading a quote

When you look at an options chain, you'll see:

• Bid: highest price buyers are offering (what you get if you sell)
• Ask: lowest price sellers accept (what you pay if you buy)
• Mid: $\frac{\text{Bid} + \text{Ask}}{2}$ (approximate fair value)
• Spread: $\text{Ask} - \text{Bid}$ (your transaction cost)

Activity metrics: volume and open interest

• Volume: contracts traded today
• Open interest (OI): total outstanding contracts

High volume + high OI = liquid option (easy to trade, tight spreads).

Time terms

• DTE: Days to expiration
• Weekly: expires every Friday
• Monthly: expires third Friday
• LEAPS: Long-term options (1-3 years out)

The Greeks (preview)

Sensitivity measures you'll learn in detail later:

Exercise and assignment

• Exercise: buyer uses their right to buy/sell shares
• Assignment: seller is obligated to fulfill the exercise

Most options are not exercised—they're sold before expiration.

Reading an option symbol

AAPL 250117C00200000

Breaking it down:

• AAPL: underlying (Apple)
• 250117: expiration (January 17, 2025)
• C: call (P = put)
• 00200000: strike $200.00

Or in readable format: AAPL Jan 17 2025 $200 Call

Quick chain example

The 200 call is ATM (highest volume, delta ~0.50).

Terminology reference formulasRead more

Moneyness definitions:

• Call ITM: $S_0 > K$
• Call OTM: $S_0 < K$
• Put ITM: $S_0 < K$
• Put OTM: $S_0 > K$

Value decomposition: $\text{Premium} = \text{Intrinsic} + \text{Extrinsic}$

Intrinsic value: $\text{Call: } \max(S_0 - K, 0)$ $\text{Put: } \max(K - S_0, 0)$

Bid-ask midpoint: $\text{Mid} = \frac{\text{Bid} + \text{Ask}}{2}$