The share or asset on which the option is based.
OPTIONS LAB #01 · FOUNDATIONS
Calls and puts:
what are you really buying?
An option does not buy the share. It buys a contractual right — for a limited time and at a price that can expire worthless.
Educational lesson · Hypothetical examples · 12 min readBuying a share is relatively direct: you own part of a company and the position has no expiry date. Buying an option adds more variables. The underlying can move in the expected direction and the option can still lose money because the move was too small, too late or already reflected in the premium.
That complexity is not automatically bad. It is simply the price of using a contract to alter capital exposure and risk. The first discipline is understanding exactly what each side receives.
ANATOMY OF AN OPTION
One contract.
Five decisions.
A call benefits from upside; a put benefits from downside.
The agreed exercise price written into the contract.
The deadline by which the expected move must matter.
The upfront price paid by the buyer and received by the seller.
Standard US equity options generally represent 100 shares, so a quoted premium of $5 normally means $500 per contract.
THE CALL
The right
to buy.
A call buyer pays a premium for the right, but not the obligation, to buy the underlying at the strike before expiry. The buyer's maximum loss is normally the premium paid.
Buyer expectsPrice above strike + premium
THE PUT
The right
to sell.
A put buyer pays a premium for the right, but not the obligation, to sell the underlying at the strike before expiry. A put can express a bearish view or protect an owned position.
Buyer expectsPrice below strike − premium
HYPOTHETICAL PAYPAL EXAMPLE
Shares versus
a $60 call.
This example uses assumed prices solely to explain payoff mechanics. It is not a current quote, recommendation or forecast.
Assumed share price$56
Capital for shares$750≈ 13.4 shares
Hypothetical call$60 strike$5 premium · 1 contract
Call maximum loss$500100% of premium
Call break-even$65At expiry
| PayPal at expiry | $750 in shares | $60 call bought for $5 |
|---|---|---|
| $45 | −$147 | −$500 |
| $56 | $0 | −$500 |
| $60 | +$54 | −$500 |
| $62 | +$80 | −$300 |
| $65 | +$121 | $0 |
| $75 | +$255 | +$1,000 |
BEYOND THE OBVIOUS
The call risks less capital than the $750 share purchase, but it is not automatically less risky. At $62, the shareholder is up about $80 while the call buyer still loses $300. Leverage improves the upside only after the premium and strike have been overcome.
THE SAME LOGIC IN REVERSE
A protective view
with a $50 put.
Assume a hypothetical $50 put costs $2, or $200 for one contract. The maximum loss for the buyer is $200 and the break-even at expiry is $48.
If PayPal ends at $40$1,000 intrinsic value − $200 premium = $800 profit
The buyer benefits from a material decline. If the share finishes at or above $50, the contract can expire worthless and the full premium may be lost.
TWO SIDES, DIFFERENT OBLIGATIONS
The buyer has a right.
The seller accepts an obligation.
The buyer pays the premium and can choose whether to exercise. The seller receives the premium but may be required to buy or sell shares if assigned.
Selling options is not “free income”. A cash-secured put requires enough cash to buy the shares; a covered call requires the shares that may be called away. Uncovered selling can carry very large or theoretically unlimited risk.
MITUXA RULES BEFORE ANY OPTION
Five questions.
No exceptions.
- 01Would I own the underlying?
No contract repairs a weak investment thesis.
- 02What is the exact break-even?
Direction alone does not determine profit.
- 03Can I lose the full premium?
Position size must assume the worst defined outcome.
- 04What happens if assigned?
Every seller must be able to meet the obligation.
- 05What ends the trade?
Define profit-taking, loss control and thesis invalidation before entry.
LEARN FROM PRIMARY EDUCATION SOURCES
OCC — Characteristics and Risks of Standardized Options ↗Options Industry Council — What Is an Option? ↗Options Industry Council — Basics of Calls and Puts ↗Disclaimer. This material is for education only and is not personalised financial advice. Options involve risk and are not suitable for every investor. Hypothetical outcomes exclude commissions, fees, taxes, early exercise and changes in implied volatility before expiry.