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February 23, 2007, Newsletter Issue #55: Defining Stock Options
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Tip of the Week
Stock options are investment instruments known as derivative securities, which means that each stock option derives its value from an actual stock or equity. In other words, a stock optionīs value is directly dependent on the price movement of its underlying security. For example, the value of Coca-Cola options are derived from 100 shares of Coca-Cola stock. Each option will have an underlying security.
Having established that stock options all have an underlying security, the next point to understand is that a stock option is a contract which represents the right to buy or sell shares of the underlying stock. Each contract generally represents 100 shares of the underlying stock, and there are no partial contracts. Options traders can own as few as one contract and as many contracts as their options trading capital will allow.
Buying a stock option contract does not obligate you to purchase or sell actual shares of the underlying stock. It only signifies that you have the right, or option, to buy or sell.
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