What Are In The Money Options ( ITM Options )?



Definition Of In The Money Options ( ITM Options )


A stock option which has intrinsic value.

Yes, a stock option is considered to be In The Money ( ITM ) if it contains intrinsic value, whether or not it still has extrinsic value.

In The Money Options ( ITM Options) Introduction


In The Money Options ( ITM Options ) is one of the three option moneyness states that all option traders has to be familar with before even thinking of actual option trading. The other two option status are : Out Of The Money ( OTM ) options and At The Money ( ATM ) options. Understanding how options are priced makes this topic easier to understand. In fact, trading In The Money Options ( ITM Options ) are what all option trading beginners should do as it is extremely effective at controlling risk while still providing a good reward / risk profile.

Any stock option contracts that can be exercised in order to buy its underlying stock for lower than the prevailing market price or to sell its underlying stock for higher than the prevailing market price is said to be In The Money ( ITM ).



When Is A Call Option In The Money ( ITM )?


A call option is considered In The Money ( ITM ) when the call option's strike price is lower than the prevailing market price of the underlying stock, thus allowing its owner to buy the underlying stock at lower than the prevailing market price by exercising the call option.

OppiE's Note In The Money Option with strike price extremely close to the strike price is also known as "Near The Money Option".


Example : If GOOG is trading at $300, it's $200 strike call options are In The Money ( ITM ) as it allows one to buy GOOG at $200 when it is trading at $300 now. The $200 strike call options therefore has an intrinsic value of $100.

Here is a table explaining the status of a call option against its underlying stock :

Assume GOOG trading at $300 now.
Call Option Status Strike Price
ITM $200
ATM $300
OTM $400



What Happens When A Call Option Expires In The Money ( ITM )?


When your Call Options expires In The Money ( ITM ), your In The Money call options will be automatically exercised if you have enough funds to buy the underlying stocks at the strike price you bought the call options.

In The Money Options Example

Assuming you bought QQQQ's Jan44Call and then QQQQ closes at $46 upon option expiry.

Your Jan44Call gets automatically exercised and you buys QQQQ at $44 when it is currently trading at $46. You can then continue to hold the QQQQ stocks or sell it for the $2 profit.

If you do not have enough money in your trading account to buy (take delivery of) the underlying stock, then you should sell the In The Money Options ( ITM Options ) and take profit before the call options expires. Could you exercise the in the money call options, take delivery of the underlying stock and then immediately sell the stocks? Yes, you can do that but your profit would be exactly the same as when you simply sell the options (and you would have incurred a lot more commissions in the process of buying the stocks and selling the stocks).

Exercise vs Sell

Assuming you bought 1 contract of QQQQ's Jan44Call for $1.20 and then QQQQ closes at $46 upon option expiry. QQQQ Jan44Call valued at $2 ($46 - $44).

Scenario 1 : Exercise, Take Delivery, Sell

Step 1: Exercise, Take Delivery

Buys 100 shares of QQQQ for $4400 ($44 x 100). (Commission Incurred)

Step 2: Sell Shares At Current Price

Sells 100 shares of QQQQ at $46 for $4600 (Commission Incurred Again)

Profit = Profit From Share Sale - Premium Of Options Bought - Commissions

Profit = ($4600 - $4400) - ($120) - (2 x commission) = $80 - (2 x commission)

Scenario 2 : Sell Options

Sells 1 contract of QQQQ Jan44Call for $2

Profit = [(Difference in Strike - Premium) x (No. Of Contracts)] - Commissions

Profit = {[($46 - $44) - ($1.20)] x 100} - (1 x commission) = $80 - (1 x commission)

Do you see how you will receive the exact same amount of profit in both cases while you would have incurred more commission by taking delivery of the stock first in scenario 1? This is why options traders also sell in the money options and not exercise them unless for the express purpose of owning and holding the stock beyond expiration.





When Is A Put Option In The Money ( ITM )?


A put option is considered In The Money ( ITM ) when the put option's strike price is higher than the prevailing market price of the underlying stock, thus allowing its owner to sell the underlying stock at higher than the prevailing market price by exercising the put option.

Example : If GOOG is trading at $300, it's $400 strike put options are In The Money ( ITM ) as it allows one to sell GOOG at $400 when it is trading at $300 now. The $400 strike call options therefore has an intrinsic value of $100.

Here is a table explaining the status of a put option against its underlying stock :

Assume GOOG trading at $300 now.
Put Option Status Strike Price
OTM $200
ATM $300
ITM $400



What Happens When A Put Option Expires In The Money ( ITM )?


When your Put Options expires In The Money ( ITM ), your In The Money put options will be automatically assigned, and you will end up with short positions of the underlying stock.

Put Options Expiring In The Money

Assuming you bought QQQQ's Jan44Put and then QQQQ drops to $42 upon option expiry.

Your Jan44Put gets automatically exercised and you will own short QQQQ at $44 when it is currently trading at $42. You can then continue to hold the short QQQQ stocks or buy it back for the $2 profit.


If you are not allowed to go short stocks or index by your broker, then you should sell the In The Money Options ( ITM Options ) and take profit before the Put options expires.



When Is An Option Deep In The Money (DIM)?


This is a relatively new term coined by the option trading community and refers to any options with delta value of more than 0.75. Deep In The Money options are used as fiduciaries for buying the underlying stock as they move almost dollar for dollar with the underlying stock while costing only a fraction of the price of the stock. In fact, LEAPs DIM options are now increasingly popular as a total replacement for buying the stock altogether. DIM options are also used in the famous Stock Replacement Strategy.



Advantages Of Trading In The Money Options ( ITM Options )


1. Higher Delta value than At The Money ( ATM ) options or Out of The Money ( OTM ) options. A higher delta value means that an In The Money Options ( ITM Options ) would gain more value than an At The Money ( ATM ) or Out Of The Money ( OTM ) option with the same move on the underlying stock.

Assume GOOG trading at $300 now.
Call Option Status Strike Price Delta Value Gain If GOOG is $301
OTM $400 0.2 $20
ATM $300 0.5 $50
ITM $200 0.8 $80


2. Lower risk of loss than Out Of The Money ( OTM ) options. Because In The Money Options ( ITM Options ) contains intrinsic value, you will still have the intrinsic value remaining by expiration if the underlying stock stayed stagnant while an Out Of The Money ( OTM ) option would expire completely worthless, losing all your money in it.

Assume GOOG trading at $300 now.
Call Option Status Strike Price Delta Value If GOOG is $301 GOOG expired at $300
OTM $400 0.2 $20 $0
ATM $300 0.5 $50 $0
ITM $200 0.8 $80 $100



Disadvantages Of In The Money Options ( ITM Options )


1. More expensive in absolute dollars than At The Money ( ATM ) or Out of The Money ( OTM ) options. Because In The Money Options ( ITM Options ) consists of intrinsic value, it would cost more per contract than an At The Money ( ATM ) or Out of The Money ( OTM ) option.

Assume GOOG trading at $300 now.
Call Option Status Strike Price Price Per Contract Delta Value If GOOG is $301 GOOG expired at $300
OTM $400 $0.10 x 100 = $10 0.2 $20 $0
ATM $300 $7.00 x 100 = $700 0.5 $50 $0
ITM $200 $101.00 x 100 = $10100 0.8 $80 $100

OppiE's Note Beginner option traders need to remember that every stock options contract represents 100 shares of the underlying stock and therefore one would pay 100 times the asking price of a single option contract in order to open a position.


2. Lower percentage gain on the same move of the underlying stock than At The Money ( ATM ) or Out Of The Money ( OTM ) options.

Assume GOOG trading at $300 now.
Call Option Status Strike Price Price Per Contract Delta Value If GOOG is $301 GOOG expired at $300 GOOG expired at $500
OTM $400 $0.10 0.2 $20 $0 $100 / $0.10 = 100,000% Gain
ATM $300 $7.00 0.5 $50 $0 $200 / $7.00 = 2,857% Gain
ITM $200 $101.00 0.8 $80 $100 $300 / $101 = 297% Gain

OppiE's NoteMany beginner option traders think of In The Money Options ( ITM Options ) as expensive options because the price consists of intrinsic value as well as premium value while Out of the Money options consists of only premium value and are therefore cheaper. That is actually a misconception. The real "cost" of an option is really only the premium value because if the underlying stock does not move, the In The Money Options ( ITM Options ) will still be left with its intrinsic value upon expiration while the Out of the Money ( OTM ) option would be left worthless.

The advantages and disadvantages of In The Money Options are condensed and governed by its Options Leverage which can be mathematically measured.



Reader's Questions Regarding In The Money Options...



:: Are There Any Advantages For Options To Expire In The Money?
:: Should I Use In The Money Bull Call Spread For Short Term Trading?

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