The option strike price (also known as the exercise price) is a term used in options trading.
Options are derivatives. These financial instruments are ‘derived’ from another underlying security such as a stock, and give the right (but not the obligation) to buy or sell the underlying at some point in the future.
(Most traded options are ‘American’ options. The underlying can be bought or sold anytime . However ‘European’ options, which can only be exercised on contract expiration, exist too ).
However it is worth knowing that there are so called European options in existence too, which can only be exercised on contract expiration).
Options come in two main types: calls which give the right to buy and puts which give the right to sell.
Option Strike (Exercise) Price Definition
The strike (or exercise) price of an call option is the fixed price at which a holder can purchase the underlying stock or financial instrument sometime in the future. Likewise, the strike price of a put is the price at which a stock/instrument can be sold.
Options are quoted via options chains on the Chicago Board Options Exchange (CBOE) and each by:
- Underlying Security (usually, but not always, a stock such as AAPL)
- Option Type: A Call (the right, but not obligation, to buy the underlying) or Put (the right, but not obligation, to sell the underlying)
- Expiry date: when an option has to be used before it expires worthless. Options are time limited as they can only be used up to this set expiry date.
- Exercise Price. Also known as the strike price, this is the price at which the underlying can be bought (call) or sold (put)
Let’s look at an example:
Suppose you see via your broker, via an options chain like the one above, an option quoted: Nov 20 200 Call 1.50
In other words the underlying is AAPL (Apple stock), this is a call option with an expiry of November 2020 and exercise price of $200. The price per option is $1.50.
Option contracts are usually in blocks of 100 and so one contract would cost $150 ($1.50 x 100) and allow you to buy 100 AAPL shares for $20,000 ($200 x 100) anytime between now and November 2020.
Why Is Strike Price Important?
Suppose in the above example you instead looked at the following option: AAPL Nov 20 180 Call
This is the same as before, but now the right purchased is to buy at $180.
Do you think this is more or less valuable to the owner? More valuable, of course, and hence we would expect the quoted value to be much higher than $1.50 (depending also on the current stock price and implied volatility).
Strike price is also relevant to the concept of moneyness.
An option is at-the-money if the strike price and the current stock price are the same.
It is in-the-money if the strike price is lower (for calls) or higher (for puts) than current price. It is out-of-the-money if the exercise price is higher (for calls) or lower (for puts).
So for example if Apple’s share price is $190 our AAPL Nov 20 200 Call is out of the money, but the AAPL Nov 20 180 Call is in the money.