Call Options vs Put Options

Rights vs Obligations

	Buyer	Seller
Call Option	Right to Buy the Underlying	Obligation to Sell the Underlying
Put Option	Right to Sell the Underlying	Obligation to Buy the Underlying

Buying vs Selling Options

	Outlook	Risk	Reward	Premium	Exercise
Buy Call Option	Bullish	Limited	Uncapped	Pays	Right
Sell Call Option	Bearish	Uncapped	Limited	Receives	Obligation
Buy Put Option	Bearish	Limited	Uncapped	Pays	Right
Sell Put Option	Bullish	Uncapped	Limited	Receives	Obligation

Buy Call Option

A Call Option gives the buyer the right to buy the underlying at the strike price at or before ¹ the expiration date. A buyer of a call option wants the market price to go up and pays a premium to the seller of the option in order to have this right.

If the stock price (underlying asset) is higher than the strike price then it is the buyer of the option that can choose to exercise the option. The seller of the option is then obligated to deliver 100 shares to the option buyer at the value of the strike price. The buyer of the call option will then be long (have purchased) the shares at the strike price.

Buy Put Option

A Put Option gives the buyer the right to sell the underlying at the strike price at or before ¹ the expiration date. A buyer of a put option wants the market price to go down.

If the price of the underlying stock is lower than the strike price, the buyer of the put option can choose to exercise the option. The seller of the put option is obligated to sell 100 shares to the put option buyer at the strike price. The put option buyer is now short 100 shares at the strike price of the option.

Sell Call Option

A seller of a call option waives any rights over the exercise of the option. S/he is obligated to deliver (or sell) 100 shares to the option buyer if the option is exercised.

When the transaction initially takes place, the buyer of the option pays to the seller an option premium up front, which the seller keeps regardless of the outcome of the option. This premium serves as a kind of insurance for the seller.

Option sellers take on more risk but are paid up front for the trade.

Sell Put Option

A seller of a put option also waives any rights over the exercise of the option. S/he is obligated to buy 100 shares for each option contract to the buyer of the put option if exercised.

Just like selling a call option, a put option sale means the seller receives the premium up front at the time of trade and keeps this amount no matter what the outcome of the option.

You might think that selling put options is very risky when looking at the payoff graph as the downside seems uncapped as the market price falls. However, shorting put options is a popular strategy for those who wish to buy stock but at a price that is lower than where it is currently trading. Think of a short put as below market limit order. But, instead of simply placing a limit order into the market, a put option means you receive money up front by way of premium, which you keep if the stock keeps rallying.

If the stock falls below the strike price, then you will be exercised by the put option buyer and have to take delivery of the stock at the price you wanted to buy it for anyway. Plus you keep the premium.

If the stock keeps dropping then yes, your losses will mount as you are now long the stock at a higher price than it is currently trading. But you would have bought it there anyway.

[1] At or before depends on the style of option.

62 Comments

Anthony June 6th, 2015 at 1:31am

Hey brozos,
All you need to understand options is the graphs.
Wohooooo

Peter January 2nd, 2014 at 10:49pm

Hi Manojg,

The seller of the put option is short the option, not the stock. If the option is then exercised by the buyer the seller of the option now becomes the holder of the stock - or long stock. After the exercise there is no position in the option. Not sure if that answers your question - let me know if it is still unclear.

Peter January 2nd, 2014 at 10:46pm

Hi Sam,

No, the payoff is the P&L at the expiration of the option.

Manojg December 28th, 2013 at 9:59am

I have some confusion about call/put options and long/short positions, and I want clarify it. Here it is:

Let us say there is a put option. The buyer of the put option gets right to sell the stock and he holds short position. (Am I right?)
Similarly, the seller of the option (i.e. writer of the option) is obligate to buy the stock if the option is exercised. So, he holds long position (right?). However in Hull's book says the seller holds short position. Now what is right?

sam December 10th, 2013 at 3:20pm

what you called the payoff you would receive if you chose to exercise an option today ?

Peter July 4th, 2012 at 1:16am

Hi Jake,

1. Yes, when you are long a put and you exercise you will sell the underlying asset at the strike price. If you don't hold the asset and short positions are allowed (i.e. futures) then you will simply go short the asset. Otherwise your broker may borrow the stock on your behalf to sell to the buyer.

2. Only if the option is American style. Options can either be American (can exercise prior to expiration date) or European (can only exercise on the expiration date). Typically stock options are American style but it is of course best to check the specifications before you trade.

Jake July 3rd, 2012 at 9:50am

Hi Peter,

1.I have a question regarding PUT option, Please explain this scenario when the stock price is $20, and what happens when holder PUT an Option ? Means that holder sells the stock at $25 and that means holder should have these stocks with him before to sell at $25?

2.Can we excersise Call or Put option before expiry date, say suppose if the expiry date is 25 th July and on 15 July stock price is $50, can we Call an option on 15th July or we will have to wait till 25th July ?

Peter May 8th, 2012 at 1:39am

Sort of. An easier way to think of it is that a call option increase in value with the market goes up and a put option increases in value when the market goes down.

You can trade in and out of these contracts just like stocks/shares as the values rise and fall prior to expiration without having to take delivery of or deliver the underlying instrument.

just guest May 8th, 2012 at 1:25am

Hi, Peter,
I just want to know if I properly understood the terms and principle of call and put options.
So, the holder of the option can play with the put or call options. When the price is down, then the holder can oblige the buyer (on the basis of the option contract)to buy the stocks for a value specified in the above option contract? But the transaction can be closed only during the period of contractual time. But if the price goes up the holder has the right not to sell (but it means that the holder will not earn anything if the option contract is expired)?
Regards,

anjan May 2nd, 2012 at 1:28pm

It's good, I understand it.

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