An options contract gives you the right to buy or sell a stock (or other asset) at a given price. This article will take a look at in the money options and how they can be used to your strategic advantage and to help you meet your investment goals. In addition, a stock market trading platform can provide research tools and educational content.
What Does ‘In the Money’ Mean?
The phrase “in the money” (ITM) is used to refer to a stock option that has intrinsic value. This means that exercising the stock option makes better financial sense than if you did not have the option contract. In other words, an ITM contract presents the opportunity to profit from the purchase or sale of stock and is usually a good time for an option to be exercised.
In the Money (ITM) vs. Out of the Money (OTM) Options
Another way to understand ITM contracts is to compare them to “out of the money” (OTM) options. For a contract to be ITM, it has to offer value to the contract holder. This means that if you buy or sell the stock, you’ll have a greater opportunity for profit than if you simply used the current market value of the stock.
Otherwise, the stock will be considered out of the money (OTM). An OTM option is one in which there is no value in exercising the option — you’d be better off buying or selling the stock at the current market price. But some traders point out that OTM options are often cheaper because they have no intrinsic value, and while they offer greater risk, this can translate into a reward if the price should swing in your favor.
How Does In The Money Work?
An option contract will provide you with the right (though not the requirement) to buy or sell a stock at a given price. This is what’s known as the “strike price.”
A stock option can be in the money when the strike price moves in a favorable direction. But that depends on whether you use your contract to buy or sell an asset. Here’s how both types of contracts work.
When Is a Call Option In The Money?
A call option gives the contract owner the right to buy a stock at a given price. In this case, the call option is in the money only when the stock value trends upward over a specified period of time. Exercising your call option would allow you to purchase shares of that stock at a discount, which increases your chances of making a profit.
When Is a Put Option In The Money?
A put option gives you the right to sell a stock at a given price. So your put option is only in the money if the stock price trends downward. This allows you over a specified period of time to sell the stock at a higher price than its current value, increasing your chances of making a profit.
Advantages of In The Money Options
ITM options offer several unique advantages.
Intrinsic Value
In-the-money (ITM) options have intrinsic value, which indicates they are currently profitable. For call options, this happens when the underlying asset's price exceeds the strike price, while for put options, it occurs when the underlying asset's price falls below the strike price. This intrinsic value makes ITm options a more secure investment relative to out-of-the-money options.
Greater Leverage
In-the-money options offer greater leverage since they typically respond better to price changes in the underlying asset. As a result, investors may be able to attain higher percentage returns on their investment by holding in-the-money options, as opposed to options without intrinsic value.
Higher Probability of Profit
ITM options are already profitable, which means they are more likely to expire in the money compared to out-of-the-money options. This feature makes them typically more appealing to investors looking for a greater likelihood of a successful trade.
Lower Time Decay Risk
As options near their expiration date, time decay, or theta, decreases their value. In-the-money options generally experience a slower loss in value compared to out-of-the-money options because they hold intrinsic value. This trait means that in-the-money options are less affected by time decay.
Flexibility in Strategy
ITM options can be useful for different strategies, such as hedging and earning income through covered calls. Investors have the option to sell ITM call options on their stock holdings to generate income while also offering some downside protection, which can help create a more adaptable investment strategy.
Things to Consider with In The Money Options
Investors should consider a few details about an ITM option trade.
Definition and Intrinsic Value
"In the money" (ITM) options refer to options with intrinsic value. For call options, this means the underlying asset's current price is above the strike price, making them profitable if exercised. For put options, the asset's price is below the strike price. Understanding these definitions is crucial for selecting ITM options that align with your investment strategy.
Premium Costs
ITM options typically have higher premiums compared to out-of-the-money (OTM) or at-the-money (ATM) options due to their intrinsic value. It's important to consider the cost of acquiring these options and how that affects potential profit margins if the underlying asset moves in the expected direction.
Risk vs. Reward
While ITM options may offer a higher chance of being profitable owing to their current intrinsic value, they also carry risks. Analyzing the underlying asset, market conditions, and personal risk tolerance is essential before trading. Evaluate potential rewards against the likelihood of loss.
Time Decay
In-the-money (ITM) options can still lose value due to time decay as the expiration date gets closer. It's important to take into account the remaining time until expiration and its potential impact on the option's price, since even ITM options can decrease in value rapidly if they are close to expiring.
Exit Strategy
It's important to have a clear exit strategy when trading ITM options. Identify your target exit points, whether it's to take profits, cut losses, or roll options into future contracts. Regularly reviewing market conditions and having a well-defined plan will assist you in managing your positions effectively.
Example of In The Money
Imagine that you have an option to purchase 100 shares of Company A. Your call option grants you the right to purchase these shares at a strike price of $250 per share.
Now, imagine that Company A is currently trading at $350 per share. This means that your option contract is officially in the money, with an intrinsic value of $100 ($350 – $250).
You have three choices. One, you can exercise your option and purchase this stock. Second, you can wait for the stock’s price to rise even higher to maximize the value of your contract. And third, you can sell the option itself but don't forget to factor in brokerage fees. This may impact how much you profit from the trade.
Become a Better Trader
In the money options contracts are those that offer the greatest promise of return. Knowing when to exercise your options can make you a better trader and help you maximize the benefit of any stock options your employer may provide.
Frequently Asked Questions
What is an in the money put option?
An in-the-money put option is a financial contract that allows the holder to sell an underlying asset at a predetermined strike price that is above the asset’s current market price. This option holds intrinsic value since it can be profitably exercised by selling the asset at the higher strike price and purchasing it at the lower market price.
Why trade in the money options?
Trading money options lets investors make the most of their capital, which can lead to significant returns with smaller initial investments than traditional stocks. Options also offer flexibility and a way to protect against market fluctuations, helping traders manage risk more efficiently.
What is the in the money value of options?
The “in the money” value of options refers to the intrinsic value of an option that is beneficial for the option holder; for call options, it means the market price of the underlying asset is above the strike price, while for put options, it means the market price is below the strike price. Essentially, an option is considered “in the money” when exercising it would lead to a profit.