Welcome to professorsavings.com, we teach finance basics. Today we will teach you about call options basic.
Hi I’m Rayfil Wong. We hope these investment concepts will help you be a better investor.
Call options are financial contract that allows an investor to speculate in stocks that he doesn’t own.
Professor Savings believes shares at Ray’s Computers are going to rise in price. He doesn’t own any shares so he talks to Jane.
Jane has 100 shares of Ray’s Computers and thinks they’re fairly priced at $20 or maybe even due for a fall.
Jane agrees to enter a contract to sell her shares to Professor Savings for $22 in a month. The fee that Professor Savings pays Jane for the option called the Premium is $200 or the $2 per share difference multiplied by 100 shares.
If the price of Ray’s Computer shoots up to $30 in a month, Professor Savings can exercise the option. This means he buys Jane’s 100 shares from her for $22 each for a total of $2,200 and sells them for $3,000.
His profit is $800 minus the $200 paid for the option, $600.
If the price stays lower than $22 then Professor Savings loses the $200 he paid for the option.
There’s no point of him paying $22 for Professor Savings’ shares when she can buy them cheaper in the market.