Options are financial derivatives that are based on an underlying asset. They principally derive their value from the price another asset. Contracts offer you the right without the obligation to buy or sell the underlying asset at a predetermined price on or prior to a particular date.
Options are classified as put and call options. If you buy an options contract, you become a holder. When you sell an options contract, you are known as the writer.
Some of the important terms used in options are as follows:
Put and call options
The right to buy a contract is known as a call option. Under this contract, you have the option to purchase the underlying asset before a specific date for a given price. You must pay a premium, which is the price you pay to acquire the call contract.
The right to sell a contract is known as a put option. Under this contract, you have the option to sell the underlying asset on or before the predetermined date at the specified price. You must also pay a premium to enjoy this right.
Liquidity and volume
Volume in options trading refers to the number of transactions that are made involving a specific contract. If an options contract is traded heavily, it enjoys is a high volume and vice versa. Volume shows the liquidity of a particular contract, which is an important consideration while making an investment decision.
Bull markets and bear markets
When the prices in the financial markets consistently rise or are expected to increase, it is called a bull market. On the other hand, when the financial market experiences or is expected to witness falling prices, it is known a bear market.
The market run plays an important role in helping you make an investment decision. This is particularly important in options trading because several strategies are used in certain types of market runs.
Fundamental analysis and technical analysis
Investors principally use fundamental and technical analyses to make investment decisions. Fundamental analysis is analyzing a financial instrument to determine its intrinsic value. In comparison, technical analysis studies past performance to identify any trends and patterns that exist.
Each of these analyses has its pros and cons. The decision to use one or the other primarily depends on your personal choice and requirements.
Contract size
Contrary to what beginners believe, most options contracts cover multiple units of the underlying asset. The number of units of the underlying asset covered by a contract constitutes the contract size. The contract size determines the premium paid for the option.
As a beginner, you may find options’ terminologies complicated. However, it is not difficult and as you trade in the derivatives market, it becomes simpler.
So, understand the basics and start investing today.