I have a question. If I have a Put Option on a stock with a strike price of $100 in 3 months, and today I sell this Put option for $30. I now have $30 in my pocket. If in three months the stock becomes $90, and the new owner of the put option exercises this put option, do I (the first holder of the put) have to go buy the stocks for $100 and sell them to the new owner of the put option for $90?
I dont understand:
(1) Why does the original owner (the first person who owned the put) still hold responsibility after he sold the option?
(2) This makes me wonder, if I buy from a broker market a put option, and I exercise it, who is going to purchase my shares on the other side? Is the option market like the future market whereby every short has a corresponding long?
For a Futures Contract, you have one person willing to buy (long future) and one person willing to sell (short future), is it the same for the options, whereby, every put is matched with a call?
I am not even sure on what selling the call option does, does it also force you to buy the shares if the person you sold to decides to exercise it?
I think you’re confusing selling an option vs shorting an option. If you buy an option and then sell it before expiration for its market value then you no longer have any position therefore you don’t take a loss if that option is exercised. The person that would take a loss on an exercised option is the person who originally “wrote” or shorted the option.
Number 1 answers number 2. When you buy a put option you’re purchasing the right to sell shares from someone (the seller) at a predetermined price (strike price). It’s a contract between you, the buyer (Long side) and the person who wrote the option, the seller (short side). The person you bought from would be the person you settle with and he/she is binded by contract to buy from you.
“An Alternative trade would be to sell your September put option contract with a strike price of $840 at the bid price of $31.00. This would lead to an cash flow of $3,100. If the stock price stays above $840, the option is not exercised and the investor makes a profit of this amount. If the stock price falls and the option is exercised when she stock price is $800, then there is a loss. The investor must buy 100 shares at $840 when they are worth only $800”
So is my book referring to the first person who issued the put option? What about the person who bought the put option from the first seller, say for $20, and then sold the option for $22, does he make a gain of $2 and no longer have to worry about the future? and the only person who has to worry about the future is the person who first sold/write the option? Is my book looking at it from the first person who wrote the option’s perspective?
In that case, can you help me interpret the following:
Selling a call option gives you a pay off: -Max(St - K,0) Min(K - St, 0)
Selling a put option gives you a pay off: -Max(St - K, 0) Min(K - St,0)
Yes, the issuer is the investor. Why? Because the issuer is taking a position on the short side (of the option) and hoping to make money ($840). Is the buyer also an investor? Yes, because the buyer is trying to profit on the long side (of the option) by having the price drop below the strike price. Both sides are investors and when one profits the other loses. (I know this is confusing but trust me, you should watch videos of options 101 and get real familiar with the basics or get totally smacked at level 2 derivs)
That formula is for buying a call option not selling one
M(St- K,0) describes profit for buying a call option. It just means your profit will be the largest of Strike – Market value or 0. If you cannot exercise your option then that means Strike – Market value is less than 0 so your profit is 0
I’d recommend starting with the basics of buying call options. Watch some videos on Youtube and get the basics down before you get into short side and puts
When you sold the put option at X = $100 to the other party (let’s call him A), you are giving A the right to sell the stock to you at $100. So, if the stock price = $90, then A will exercise the put option and sell the stock to you at $100 (so you are obligated to buy the stock at $100).
When you say Strike - Market Value (you are referring to them as the same thing correct)? So your saying that the 0 is placed there, saying that if we do not exercise, then we lose what we paid for this option What about the negative sign at the beginning of the equation? -Max(St - K,0)
Yes I am reading an introductory book, but it is a bit confusing…
Strike and market value are not the same thing…at all.
If you’re short a put, you have a strike price at which the long (which isn’t you, it’s the counterparty you traded with) can exercise it (they’ll only do so if it’s in the money). The market value is the market value of the underlying. If the strike is above the market price of the underlying and you’re short a put, then it will be exercised and you’ll have to buy at that strike price which is higher than the market.
Market value is the underlying market. Strike price is specific to the option that you are long or short.
Also, stop thinking of buying or selling options and start thinking of them as long and short. You don’t have to own an option to short it.
Another note on options. Everyone learns different, but I never bothered to learn any of the formulas on options except for put-call parity. All those (-max,0) this and that formulas just complicate a simple topic. Just ‘logic’ your way through options and once you get it…you’ll get it. Ditch those silly formulas.