New to Options?
Options are not the simplest market to get to grips with, but we've set out to explain the basic principle behind Options, and take a look at how spread betting on Options works.
What is an Option?
An Option is a financial product that allows you to bet on the future position of an underlying market, by 'buying' or 'selling' the right (or Option) to trade it at a certain price.
Say you want to trade on gold. Obviously you would like to buy it at the cheapest possible rate, and sell it at the highest rate.
If the current underlying price of gold is $1200 per ounce, and you believe it is set to rise, you would obviously like to be able to continue to buy it at or around the same price.
So, you can buy an Option to deal at $1210 (in this case a Call Option). You are buying the right, but not the obligation, to purchase gold at $1210, on or before a certain expiry time.
This level is then known as your 'strike price' and you would pay a premium for it.
Should the price of gold rocket and reach $1300 per ounce, your Option – the right to buy at $1210, a much lower price than the current market value – will be very attractive and you will be able to buy the gold at a cheaper rate, or sell the Option for a healthy return.
If you were wrong and the price of gold goes down to $1150 when your Option expires, it would be worthless. No one would want to buy at a higher price than the current market level, so you would have a worthless 'right to buy' and therefore lose the premium you paid.
However, if you have a longer-term Option, you could hold on to it and hope the underlying price moves back in your favour before the Option expires.
Of course, with spread betting, it is important to realise that you are not physically buying or selling an Option and they can never be exercised. You are only betting on the value of the Option.
Options can therefore be a highly effective tool when markets are particularly volatile, as you can essentially bet on future volatility itself.
How it works
The price of an Option is based on several factors, mainly:
- the level of the underlying market relative to the strike price
- the underlying volatility of the market
- the time the Option has left to expiry
Spread betting Options are split into two types: Calls and Puts.
- A Call Option is the right to buy an underlying instrument at a certain price
- A Put Option is the right to sell an underlying instrument at a certain price
Find out more about the types of Options available.
Learn more about options
Options is probably one of the more complex spread betting concepts to understand. To find out more, take a look at our two options examples.
You can find explanations of some of the terms used in options betting in our spread betting glossary.