Call option

Call Option is a type of financial derivative that gives the holder the right, but not the obligation, to buy an asset at a predetermined price within a specific time period. The predetermined price is known as the strike price, and the specific time period is known as the expiration date.

A call option is typically used by investors who anticipate that the price of the underlying asset will increase over time. If the price of the asset does increase, the holder can exercise the option and buy the asset at the lower strike price. If the price of the asset decreases or stays the same, the holder can let the option expire worthless, losing only the premium paid for the option.

Structure of a Call Option

A call option is a contract between two parties: the option seller (also known as the option writer) and the option buyer. The option seller grants the option buyer the right to buy the underlying asset at the strike price within the expiration date. In return, the option buyer pays the option seller a fee known as the option premium.

Pricing of a Call Option

The price of a call option is determined by several factors, including the price of the underlying asset, the strike price, the time to expiration, the risk-free interest rate, and the volatility of the underlying asset. These factors are typically calculated using the Black-Scholes model or the binomial options pricing model.

Types of Call Options

There are two main types of call options: American options and European options. American options can be exercised at any time before the expiration date, while European options can only be exercised on the expiration date.

Risks and Rewards of Call Options

The main risk of buying a call option is that the price of the underlying asset may not increase above the strike price before the expiration date, causing the option to expire worthless. The main reward is the potential for unlimited profit if the price of the underlying asset increases significantly.