Call options explained

Protect sellers from low prices.

Call options are a bit different from regular options, for which reason you should get a little bit of extra information about them before you decide to invest. Call options are like options but there are a few extra safeguards built in for the seller. This is one reason why this type of derivative is especially important in protecting the markets from rapid price fluctuations.

The best way to understand how call options work is to look at the issue as it pertains to both the option buyer and the option seller.

First, the option buyer will agree to buy an option at a particular price at some point in the future. This price, in a call option, is called a premium. This does not mean that the buyer is required to buy on the date specified. When that date comes around, the buyer has two choices. If the prices have gone up, the buyer can choose to buy at the higher price, or the buyer can opt out. However, in call options, opting out of buying is not the same as it would be in a regular type of option.

The option seller has agreed to sell for the premium at a particular point in the future. When that date comes, either the prices will be higher or lower than the initial premium. If the prices are higher than the premium, and the option buyer decides not to purchase at the higher price, then the seller is still able to sell at the premium price. This means that the buyer is still required to pay at least the premium that was initially agreed to. Either the buyer can pay just the premium and buy nothing, or they can buy at the higher price.

If the prices go down, then the option seller can call the option. What this means is that even though the price of the commodity is lower than the agreed to premium, the buyer will still pay the premium. Essentially, the premium in a call option acts to give a seller insurance against dropping prices while still allowing the option of making a higher profit.