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Options trading explained: calls, puts and the risks

Options let you profit from a stock's moves without owning it, or protect shares you already hold. They also make it easy to lose money fast. Here's how they work, step by step.

Beginner to intermediate14 min readUpdated October 2026
Stock price at expiration$60.00
Profit or loss on one contract−$220
Breakeven line $0$42Strike $70$98Breakeven $72.20

Buying an ABC December 70 call for $2.20, the SEC's own example. The loss is capped at $220 until the stock passes $70, then each $1 rise adds $100.

What an option is

An option is a contract tied to another asset, usually a stock or an ETF. Because its value comes from that asset, it's called a derivative.

The buyer of an option gets a right: to buy or sell the stock at a fixed price before a set date. The seller takes on the matching obligation. In return, the buyer pays the seller a price called the premium.

A standard stock option contract covers 100 shares. That's why a premium quoted as $2.20 actually costs $220.

You can't trade options in a regular brokerage account by default. Your broker has to approve you for options trading, and different approval levels unlock different strategies.

Reading an option quote

This is the example the SEC uses to teach options. Every quote has the same five parts.

Tap each part of this option quote.

Underlying stock

The stock the option is based on. Options are derivatives, which means their value comes from this stock.

Calls, puts, buyers and sellers

There are two kinds of options and two sides to every trade, which makes four basic positions.

Call buyer Right

Pays the premium for the right to buy 100 shares at the strike price. Wants the stock to rise.

Call seller Obligation

Receives the premium and must sell 100 shares at the strike if assigned.

Put buyer Right

Pays the premium for the right to sell 100 shares at the strike price. Wants the stock to fall, or wants protection.

Put seller Obligation

Receives the premium and must buy 100 shares at the strike if assigned.

A buyer is also called the holder, and a seller is called the writer. Either side can usually exit before expiration by making the opposite trade: a buyer sells the same option, and a seller buys it back.

Payoff lab

A payoff chart shows your profit or loss at expiration for every possible stock price. It's the most useful picture in options trading.

Payoff lab

Pick a position, set the strike and premium, then drag the stock price to see your result on one contract at expiration.

Breakeven line $0$42Strike $70$98Breakeven $72.20
+$380Profit or loss
$72.20Breakeven price
UnlimitedMax profit
$220Max loss

You profit if the stock finishes above the breakeven. The most you can lose is the premium you paid.

In, at or out of the money

These terms describe where the stock is compared with the strike price.

In, at or out of the money?

The strike is $70. Move the stock price and watch how the same price is good news for a call and bad news for a put.

70 callIn the moneyIntrinsic value $6.00 per share
70 putOut of the moneyIntrinsic value $0.00 per share

In the money doesn't mean profitable. A buyer only makes money once the option is in the money by more than the premium paid.

What's inside a premium

An option's premium has two parts. Intrinsic value is what the option would be worth if it expired right now. Time value is everything extra, the price of the chance that the stock moves further before expiration.

Three things drive the premium: the stock price compared with the strike, the time left until expiration, and how much the stock is expected to move, measured by implied volatility.

What's inside a premium?

A $70 strike option. Change the stock price, time left and implied volatility to see how the premium is built.

$3.60Premium per share ($360 per contract)
0.54Delta
−$0.04Time decay per day (theta)
Intrinsic value $0.00Time value $3.60
120 days leftExpiration

Watch the curve bend downward near the right edge. Time value shrinks faster as expiration gets closer, especially for at-the-money options. Higher implied volatility makes options more expensive because a bigger move becomes more likely.

Prices come from the Black-Scholes model with a 4% interest rate and no dividends. It's a teaching approximation, so real market prices will differ.

Delta

How much the option price is expected to change when the stock moves $1. Between 0 and 1 for calls, and 0 and −1 for puts.

Theta

How much value the option loses each day as time passes, all else equal. It grows as expiration approaches.

Vega

How much the option price changes when implied volatility moves one point.

Leverage cuts both ways

Options give you exposure to 100 shares for much less money than buying them. That leverage can turn a small stock move into a large percentage gain, and it can wipe out your whole investment just as fast.

Shares vs calls: same money, different risk

Stock ABC trades at $68. You have about $2,200. Buy 32 shares, or 10 December 70 calls at $2.20. Move the price at expiration.

32 shares
+18%
10 calls
+355%
+$384Shares profit or loss
+$7,800Calls profit or loss

Leverage magnifies gains. The same stock move produces a much bigger percentage return on the calls.

Risks to take care of

The SEC warns that options carry no guarantees and that it's possible to lose all of your investment, and sometimes more. These are the specific risks regulators highlight.

Buyers

Losing the whole premium

If your option expires out of the money, it's worthless and the entire premium is lost.

Sellers

Unlimited loss on naked calls

Selling a call without owning the shares has theoretically unlimited risk. A naked put can lose up to the strike price per share.

Sellers

Early assignment

U.S. stock options are American-style, so a buyer can exercise at any time. Sellers can be assigned on any day, not just at expiration.

Sellers

Dividend risk

The day before a stock's ex-dividend date, call holders may exercise early to collect the dividend, which raises assignment risk for call sellers.

Both

Expiration risk

In-the-money options are generally exercised automatically at expiration. Exercising one $100 strike call means paying $10,000 for 100 shares.

Sellers

Margin calls

If the stock moves against a short option, your broker can demand more money, and can close your positions without notice if you don't add it.

Both

Pin risk

When a stock closes right at the strike on expiration day, neither side knows for sure whether the option will be exercised, and the stock can gap before you can react.

Both

Market and underlying risk

Anything that moves the stock moves the option. Sharp swings near expiration can turn a winning option worthless.

Pre-trade checklist

Brokers must give every options customer the Options Disclosure Document, officially called Characteristics and Risks of Standardized Options. Read it, then run through this list.

Before your first options trade

Tick each one you can honestly say yes to.

0 of 7 done. Anything unticked is worth sorting out before you trade.

Common mistakes

Forgetting the 100× multiplier

A $3 premium is a $300 bet per contract, and a $1 move in the option is $100. Size every trade in contract dollars.

Buying cheap, far out-of-the-money options

They look like bargains, but the stock needs a big move just to reach the strike. Most of their price is time value, which decays every day.

Thinking in the money means profit

A buyer only profits once the option is in the money by more than the premium paid. Check the breakeven, not just the strike.

Holding into expiration without a plan

In-the-money options are usually exercised automatically. You could wake up owning, or owing, 100 shares per contract.

Selling naked calls for easy income

The premium is small and capped. The potential loss isn't. One sharp rally can erase many months of collected premiums.

Trading same-day expiry options casually

Options that expire the same day leave no time to recover from a wrong move, and time decay is at its fastest.

Options and the news

Because an option's value depends on the stock, anything that moves the stock moves the option, often by a much larger percentage. Earnings reports, company announcements and analyst rating changes are some of the biggest triggers.

Before choosing an expiration date, check Stockwhiz for the company's next earnings date, its latest press releases and recent analyst rating changes. A scheduled event before expiration changes the risk of the whole trade.

What is EPS?How to read analyst ratingsWhat is the P/E ratio?

Check yourself

You buy one call option with a premium of $3.00. What's the most you can lose?

You bought a $50 strike call for $2.00. At expiration the stock is $51. What's your result on one contract?

Frequently asked questions

No. A buyer has the right, not the obligation. Most buyers sell the option to close the trade. But in-the-money options are generally exercised automatically at expiration, so close the position or make sure you have the cash if you don't want the shares.

As a buyer, no: the premium is your maximum loss. As a seller, yes. An uncovered call has theoretically unlimited risk, and margin calls can require you to add money.

Time decay. Part of every premium is time value, and it shrinks each day. A drop in implied volatility can also lower the price even if the stock stays flat.

American-style options, which include U.S. stock and ETF options, can be exercised any time before expiration. European-style options, such as many index options, can only be exercised near expiration and usually settle in cash.

An options agreement with your broker, approval for a specific options level, and the Options Disclosure Document, which your broker is required to give you.

Sources and further reading

The ABC December 70 example comes from the SEC investor bulletin. The lab premium figures use Black-Scholes as a teaching approximation.

Stockwhiz Guides is for education only and isn't investment advice. Examples use made-up companies unless marked as live data.