Options 101 — What the heck are even they?

SpockTradez
21 min readDec 20, 2024

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My New Year’s resolution for 2025 is to finally learn Options Trading. Up until recently the only thing I knew for sure about Options is that they’re a great way to lose money fast. And thus, I stayed away. But recently a friend asked if I wanted team up and try to figure them out and so we are.

A lot of the “intro guides” I found still seemed to assume some things were common knowledge that are not. So I decided to put together the guide that I wish I found at the beginning of my options learning journey.

Full Disclaimer: I’m still learning about options so it’s not a super comprehensive guide but rather an easier-to-understand Intro to Options. So strap in folks, cause this one is a doozie!

So what the heck is an Option?

Coming into this, I had only a basic understanding of what options are and how they work but for those that are 100% new to the concept let’s start at the beginning.

First let’s clarify something, when you hear about a job offering “stock options” those are Employee Stock Options. That’s not what we’ll be discussing. They basic idea is behind them similar on the core level but you can Read More About ESOs Here if you’re interested in that topic.

Let’s start with stocks. We know stocks are shares of a company and based on the value of that company the stock price goes up and down. As long as you on that stock it’s value increases or decreases with the value of the company.

Options are a derivative, meaning they get their value from an underlying asset — the stock. They also have an expiration date, which means at a certain point they go away if not exercised.

So what does that mean?

Think of it like coupons at a grocery store. If you have a coupon for $1 off a box of delicious Lucky Charms cereal, you don’t actually have a dollar. You just have a piece of paper that sort of represents $1. If you don’t use that coupon by the expiration date, it just becomes a worthless piece of paper.

Options are kind of the same, if you don’t use it by either exercising it or selling it to someone else, it expires worthless.

Right but you still haven’t told me what an option IS!

Options are contracts (or just “cons” for short).

Now we know, in general, a contract is an agreement between two parties, in this case it’s a Seller and a Buyer. An option is a contract that gives one of the parties the option, but the not obligation, to make the purchase or sale of a stock before a specific expiration date. Let me explain it better with a long winded but hopefully easier to understand analogy…

Let’s say a used car lot has a vehicle they’re selling for $10k, maybe it’s a limited edition Cyber Truck or something. You want it because for whatever reason, you think that in a few months that car will be worth $20k but you’re not sure. You really want to buy it for $10k but don’t want to take the risk of it not increasing in value. Instead of buying the car, you offer the car salesman a deal. You’ll give him $100 fee, aka a premium, to give you the option to lock in the $10k price and buy the car for the $10k price anytime between now and the 31st of this month when your agreement expires, aka Expiration Date. You are however not obligated to buy the car at all. If the 31st arrives and you realize the price of the Cyber Truck did not increase to $20k as you expected, so you decide not to exercise your option to buy the car, the car salesman keeps the $100 and the car. It only cost you $100 to potentially make $20k. The car dealer on the other hand just made a free $100 and puts the car back up for sale.

Let’s take the same scenario but on the 28th, all of a sudden Elon Musk announces Cyber Truck production will be discontinued and the secondary market for used skyrockets because of supply and demand. People are now paying $50k for a used special edition Cyber Truck. Well lucky you, you have an option agreement to buy one for $10k! So you exercise your option to buy the car and give the car dealer the full $10k amount, he has to sell it to you because you have an option contract that requires him to do so. You now own a Cyber Truck worth $50k which you can sell for a $40k profit. Meanwhile the car salesman made $10,100 selling a car that he intended to sell for $10k from the start.

This is how Call Options work except the cyber truck is stock. Re-read the above paragraph but pretend the car is $10k worth of Apple stock.

Now let’s look at Put Options…

Similar scenario. You have a limited edition Cyber Truck but because you have had lots of problems with it, you are worried it’s going to lose its value in a few months. You go into a used car lot to see what they’ll offer you. The car salesman says you can sell it to him for $10k. Instead of selling the car, you offer him $100 for a contract to have the option, but not the obligation, to sell the car to him for $10k by the 31st of the month, the Expiration Date. The car salesman agrees. Well, on the 28th of the month there’s a recall on Tesla Cyber Trucks and their value plummets. The going price is only $5k. Lucky you! You have a contract to sell that car to the car salesman for $10k and he is required to buy it. You exercise your contract and make $10k on the sale.

But what if there was no recall? What if the price of the Cyber Truck skyrockets because Papa Musk said he will no longer make the Limited Edition but everyone wants it now? They’re selling for $50k! Well you don’t want to sell it to the used car salesman for $10k. Well, you do not have the obligation to sell, so you do not exercise your option contract and let it expire and keep the car and you’re only out the $100 you paid the salesman. He meanwhile made $100 for not really doing anything, so it’s still a win for him.

That is how Put Options work. Again, re-read that scenario but replace Cyber Truck with Apple stock.

I know, I know. Your head hurts reading and my head hurts writing it.

*If, by the way, I have this totally wrong, let me know in the comments.

One other thing to point out is, unlike stocks which are sold individually, options contracts each represent bundles of the underlying stock— typically 100 shares. So if you buy an option that has a premium of $1 it will actually cost you $100*.

*Plus fees. Yes, options have fees on both sides of the trade — buying and closing. Most of you might be too young to remember the days before fee-free trading but back then selling and buying stocks also had fees for each transaction. These fees vary on a broker by broker basis. Currently for Think or Swim the fee is $0.65 each which you have to pay on each side of the trade. If you buy 10 options, you pay $6.50 per side.

Sites like Robinhood or Webull have lower fees, but some traders prefer to pay the higher fee because their networks aren’t as reliable or trusty worthy (remember the whole $GME halting bullsh*t?).

If you’re a valued trader, you can contact your broker to see if they’ll offer you a lower options fee. Some will cut the fee down by 20–30%. So it never hurts to ask, the worst they can say is no and you’re still where you are if you didn’t ask, so ask away!

Whoa, whoa! Wait a second?! Are you saying if I want to exercise an options contract I have to either buy 100 shares or have 100 shares to sell per contract?? I’m not rich, I’m trying to get rich!! I can’t afford that!

Yeah, me neither. But don’t worry there are multiple ways to trade option contracts. Those 2 are called Selling to Open — we won’t be doing that. They involved covered and naked sales and potentially margin account and a bunch of other stuff that can get a new trader in trouble.

I’m only focusing on “Buying to Open” options trades and then “Selling to Close” those positions. No covered or naked calls/puts. No margin. Just Keeping It Simple Stupid!

Buy to Open / Sell to Close

What does all this Open and Close nonsense mean? Well, if you’ve been doing basic stock trading, it’s essentially the same thing you’ve been doing. You see there are actually 4 type of trades:

  • Buy to Open
  • Buy to Close
  • Sell to Open
  • Sell to Close

The Buying and Selling aspect is pretty straight forward but what does to Open and Close mean exactly?

Let’s start with what we’re familiar with. When you BUY a stock you are OPENING a position in that trade, aka BEGINNING your trade. When you SELL that stock you are then CLOSING that position, aka ENDING YOUR TRADE, and taking either a profit (if the price went up) or a loss (if the price went down). Same goes for Options.

Look at that we’re halfway there!

Now the tricky bit for us newbies. How can you OPEN a trade by SELLING it? Well, that’s where Premiums come into play. The SELLING to OPEN trades are the positions for the trader who is writing the options and collecting the Premium. When they want to close out their position they can wither just let it expire if it is “Out of The Money” (we’ll get to this term alter) or BUY to CLOSE it out.

Remember our examples earlier? Let’s say you’re the person who owns 100 shares of Apple stock and you want to make a Premium on them by selling Options. You can SELL Calls or Puts of those shares to someone else which gives them the options but not the obligation to…. blah blah … everything we learned earlier.

When you own the 100 shares that’s called a COVERED a position, because if the option holder decides to exercise their right to the option you have them on hand. If you sell options to stocks you don’t yet have, that’s called NAKED position. And if that goes the wrong way, you’re royally F-ed because now you gotta go out and find those stocks and you’re mostly likely gonna pay more than you’re making.

This was a big part of the whole GameStop squeeze— I highly recommend you watch the HBO doc Gaming Wall Street — I think it was even the cliffhanger moment between Part 1 and Part 2 (SPOILER ALERT?).

Anyway, I’m getting into the weeds trying to explains something I won’t be doing myself or covering. There’s tons of resources online about this stuff — however, if you’re new to options and learning this sh*t from me, you’re definitely not ready for it.

The Options Chain

Even though I was aware of Option’s existence, I had no idea how you even bought them. Then I discovered the Options Chain and was immediately overwhelmed.

Here’s what the Options Chain looks like in Think or Swim:

As you can see… When it comes to options, you’ve got options!

Let’s take this one bite at a time…

Okay, here’s the Options Chain with everything collapsed. You can see that each row expands down. So what are these rows?

First, you’ll see each row begins with a date, that is the EXPIRATION DATE of the option contracts in that section. Following that is a number in parenthesis which is the DTE or DAYS TIL EXPIRATION. You’ll hear people talk about their options with one of these two numbers. For example, “I’m buying the January 3rd options.” Or sometimes they’ll say, “I’m buying the 7 DTEs, which means the contracts that expire in 7 trading days.

After the DTE you’ll see a number, usually 100, which is how many shares of the underlying stock each option contract represents. This is important because it’s the multiplier you’ll use when buying an option contract.

As you can see, there are a ton of Expiration Dates that go pretty far out from the current date. This is why I said you’ve got options! But that’s just the tip of the decision tree iceberg because there’s even more option options to come!

Once, you’ve picked the DTE that you want, expand that section down:

WOOF! I know, right?!

It’s okay, you can easily whittle this section down by setting the amount of choices you are shown by changing the menu in the center of the screen labelled “Strikes” which is currently set to “ALL” which when dealing with Indexes like SPY are a shit ton. I typically set mine to about 14.

Now there’s a lot going on here, but don’t worry, we’re still one bite at a timing this shit. Thee’s three sections — LEFT, CENTER, and RIGHT.

Let’s start with the CENTER section. There you’ll see two column, one is the EXPIRATION DATE, and next to that is what’s called the STRIKE PRICE.

The Strike Price is the price where the Option can be exercised — meaning in order for the holder of the option to be able to Buy or Sell the 100 shares of the underlying stock, the stock price must reach or pass this number.

Ideally you want it to go past this number because then the option becomes more valuable. Why? Well if you have a contract that says you can buy 100 shares of Apple stock for $225 per share and Apple stock is at $250 per share, that’s instant gains of $50 per share (and remember each contract is for 100 shares!). Now remember, even if you can’t afford to exercise that option, you can sell it to someone who can and make some money!

After you choose which DTE you want to buy, STRIKE PRICE is the next thing to consider. But more on that in a moment.

Now the LEFT and RIGHT column have the same information but just for the two different sides of a possible trade.

The LEFT side is for the CALLS or Long Positions — e.g. you’re Bullish and think the stock is going up!

The RIGHT side is for PUTS or Short Positions — e.g. you’re Bearish and think the stock is going down.

The columns can be customized depending on what aspects of the options you want to see, but the two main basics are BID Price and ASK Price.

This is how you select which Option you are going to trade.

While you might be tempted to click the cheaper one…

For the love of all that is holy - DO NOT CLICK ON THE BID PRICE!!

Luckily I discovered this mistake the easy way by paper trading it.

Don’t click the Bid Price!

This is the SELL to OPEN button. You can tell just by hovering your mouse over it and it says “Sell” — YOU DO NOT WANT TO DO THIS!! Even if you bought options and now want to take profit, THIS IS NOT HOW YOU DO THAT! (That’s called Selling to Close remember?)

The one thing you do want to observe though is the difference between these two prices — just like with stocks, the difference between the Buy and Sell price is called the Spread.

Ideally you want a smaller spread because once you purchase the option at the Buy price, you can really only sell it for the Sell price. So if the difference is 1 dollar versus 1 cent, it’s gonna take you a whole lot longer to get to your break even price.

Let’s say you buy some rare sneakers for $100 but nobody else really want that bike right now and you can only sell it for $80 (the spread is $20) well you have to wait out the value increase $20 just to break even. But if you buy them for $100 and people are willing to pay $99.99 you’ll get to break even (and profit) even faster!

Just a reminder, ’Tis the Season for Giving. If you’re finding this free info useful, I’d appreciate a nice warm cup of joe to enjoy by the ole yule log fire. You can send one over via this link. Now back to the article…

Wanna say thanks? Click HERE to buy me a cup of joe

Okay, but why are some of the options highlighted and some aren’t?

I’m glad you asked! This topics brings up 3 important terms to know:

  • In The Money (ITM)
  • At The Money (ATM)
  • Out of The Money (OTM)

In The Money

The Options that are highlighted are considered “in the money” meaning they’re already profitable i.e. the price of the underlying stock is above the Strike price for Calls or under the Strike price for puts. Meaning if you were the holder of that option and wanted to exercise your rights you would be in profit.

At The Money

There is only one line on each side considered “at the money” and that is the first option that isn’t highlighted. This option’s Strike price is equal to the current price of the underlying stock. So basically it’s at break even if it were to be exercised.

Out of the Money

The rest of the non-highlighted options are considered “out of the money” because they currently cannot be exercised. I mean why would you want to exercise an option to buy (or sell) something at a price higher (or lower) than market price.

This is all where INTRINSIC and EXTRINSIC value comes into play.

The deeper in the money your option goes, the more INTRINSIC value it has

INTRINSIC VALUE — The actual hard money value your asset has. For example, if you have Calls with a Strike price of $200 but the stock’s price is currently at $210 you have an Intrinsic value of $10. Hence, “In the Money.” Conversely, if you have Calls with a Strike price of $200 but the stock is only at $195, your Calls have no intrinsic value and are thus “out of the money.”

EXTRINSIC VALUE — The value of the option outside the underlying stock price is it’s Extrinsic value. In the case of options this is the price of the Premium which is added to the total value. So looking at that first example of that Call option with a $200 Strike price and a stock price of $210, the Options calue might be $10.50 — $10 being the Intrinsic value (the $10 difference between the market price of the stock and strike price) and the price of the Premium (50 cents)

Here’s visual example that probably makes more sense:

NOTE: I’ll add some helpful links down below for further reading on all this stuff.

The OPTIONS GREEKS

There are four values I’ll go over in regards to Options, known as the Greeks. These are Delta, Gamma, Theta, and Vega. Each of these are calculations that measure different factors that affect an option’s price.

DELTA

Delta shows how much the value of the option will change for every $1 the stock price changes.

That’s right, stocks and options do not always move in a 1:1 ratio with one another. In fact the Delta value shows exactly what that ratio is and they range on a scale from 0.00 to 1.00.

The deeper in the money and option goes the closer its value gets to that 1:1 ratio. Converse, the more “out of the money” that option is, the further it is from a 1:1 ratio.

Let’s look at an example:

You can see how the Delta changes the further In or Out of the money you get. So for those 615 calls (bottom), every time the SPY moves $1 the option will move 4 cents. However, the 596 calls (top) move 89 cents for every $1 the stock moves.

Now you’ll notice that as the stock price moves and the Option moves closer to or further from being In The Money, the Delta changes. So in order to measure that change, you can look at Gamma…

GAMMA

Gamma measure how fast the option’s Delta changes after a 1 point move int he stock price.

Higher Gamma means the option price is more volatile.

The closer an option is to the At The Money value, the higher the Gamma and the more volatile the price.

THETA

Options, unlike stocks, inherently lose value over time due to what’s called “time decay” or “Theta.”

This is because the closer you get to the expiration date, the harder it becomes to reach that Strike Price. The amount of value the option loses each day is the Theta value as seen below:

Similar to Gamma, you can see that the closer to the At The Money level you get the higher the Theta levels.

This is a major reason you want to ensure the setup you are choosing to trade as momentum. If you enter a trade and the stock is real choppy and just moves sideways you’re going to lose value due to “Theta burn” which is just a term for losing money with the passage of time because when price is moving sideways your Delta isn’t changing but you’re losing your Theta.

Now it’s important to note that this is not linear, meaning you lose the same amount each day. It actually increases exponentially as you near the Expiration Date of your option as show below:

The above chart looks nicer but the below chart has better info ¯\_(ツ)_/¯

VEGA

The Vega of an option measures the amount the option’s price is expected to change for a 1% change in the stock’s Implied Volatility (IV).

Note: Implied Volatility is different than Historial Volatility.

CUSTOMIZE YOUR OPTIONS CHAIN

So currently the only Options Greeks I currently look at are Delta and sometimes Theta (for reference on swing trades). I’ll get more into why in part 2 or 3 of this series.

I also added Open Interest, which is the amount of active contracts, and the Volume, which is how many contracts have been traded in the given time period.

You can set these by clicking the area of the Option chain top bar shown below and selecting Customize Column Sets…

BUYING & SELLING OPTIONS

Buying and Selling works pretty much the same way as stocks. Remember click on the ASK Price to buy Calls or Puts.

To Sell these (or Close the position) you’ll navigate tot he Monitor tab up top and right click on the position you want to Sell to Close. Select Create Closing Order and Sell:

This Order tray will pop up (see below)— ToS will also swith you over from the Monitor tab to the Trade tab. The fact that you can’t turn this feature off drives me nuts because I want to see the position info and P/L % etc… and it drives me nuts.

You can also “Pin” this tray to stay open by clicking the pushpin icon as shown below:

NOTE: I really dislike ToS’s interface for making trades, it’s too clunky and takes too many steps to get in OCO order which can easily cause you miss a move. I do prefer Fidelity’s better but since I’m Paper Trading in ToS I’ll stick with it for this blog post. Because of this, I don’t want to get into the details but here’s a video on how to set these up:

FINAL THOUGHTS

So all of this is a reeeeally just scratching the surface Options trading, but hopefully I simplified it enough to make the whole thing seem less daunting. And again, if I’m totally off on some of my info here, please comment below.

One thing I HIGHLY recommend is to start with Paper Trading — I opened an account at TD Ameritrade (now Charles Schwab) with the minimum $10 in it just to have free access to Think or Swim for paper trading — which is what I’ll be doing in the next post.

I’ve included a couple resources below that could be helpful to dig in deeper on some of these concepts. I’ll have a second and maybe third part of this series on Option coming soon (will be linked below when posted).

OPTIONS 201: My Day Trading Strategy

{{ COMING SOON}}

Trade long and prosper!

🖖

Sign Up for a Medium Membership: https://spocktradez.medium.com/membership

RESOURCES

I found this Mastermind course to be a fantastic way to learn all the basics like Support and Resistance and an intro to trading Options (and I’m not just saying this because I have an affiliate link). At the very least, I highly recommend joining a trading community, the only one I’m in is KC Trades Premium Discord. If you want full access and his indicators use this link.

Reddit Options Thread — There’s TONS of valuable info in this post and if you go to the Sub’s main page, they have a weekly pinned post where you can ask newbie questions and get solid answers without judgement.

And finally, here are some helpful articles on the various terms and concepts I touched on in this post.

Merry Christmas!

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SpockTradez
SpockTradez

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