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What Are Out Of The Money Options ( OTM Options )?
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Yes, a stock option is considered to be Out Of The Money ( OTM ) if it contains only extrinsic value and no intrinsic value.
An Out Of The Money Option ( OTM Option ) will expire worthless upon expiration.
When Is A Call Option Out Of The Money ( OTM )?
A call option is considered Out Of The Money ( OTM ) when the call option's strike price is higher than the prevailing market price of the underlying
stock. It confers you the right to buy the underlying stock at a HIGHER price than the prevailing stock price and hence it has no intrinsic value. Such a call option will gain in value very
quickly should the underlying stock rally above it's strike price. As it has completely no intrinsic value and requires the underlying stock to
gain in price significantly in order to realise a profit, it is also the cheapest to buy in terms of absolute dollars.
Example : If GOOG is trading at $300, it's $400 strike call options are Out Of The Money ( OTM ) as it allows one to buy GOOG at $400 when it is
trading at only $300 now.
Here is a table explaining the status of a call option against its underlying stock :
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Assume GOOG trading at $300 now.
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Call Option Status
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Strike Price
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ITM
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$200
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ATM
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$300
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OTM
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$400
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What Happens When A Call Option Expires Out Of The Money ( OTM )?
When your Call Options expires Out Of The Money ( OTM ), they becomes worthless thus losing all the money
put towards buying it initially. (Unless you want to exercise it in order to buy the stock at a higher price than it actually is... I think not.
)
 This is also the reason why you can lose all your money in option trading. If you put all your money
into buying the "cheap" out of the money options and the underlying stock fails to exceed it's strike price, you will lose all your money at expiration.
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When Is A Put Option Out Of The Money ( OTM )?
A put option is considered Out Of The Money ( OTM ) when the put option's strike price is lower than the prevailing market price of the underlying
stock. This allows you to sell the undelying stock for lower than the prevailing market price which will not make any sense and therefore contains no intrinsic value.
Example : If GOOG is trading at $300, it's $200 strike put options are Out Of The Money ( OTM ) as it allows one to sell GOOG at $200 when it is
trading at $300 now.
Here is a table explaining the status of a put option against its underlying stock :
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Assume GOOG trading at $300 now.
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Put Option Status
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Strike Price
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OTM
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$200
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ATM
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$300
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ITM
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$400
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What Happens When A Put Option Expires Out Of The Money ( OTM )?
Similar to what happens when a Call Option expires Out Of The Money ( OTM ), an Out Of The Money put option also expires worthless.
Writing Out Of The Money Put Options can result in a very interesting option trading strategy which is the best of all worlds.
Advantages Of Trading Out Of The Money Options ( OTM Options )
1. This is the most significant reason why most option traders trade Out Of The Money Options ( OTM Options ).
It has the highest percentage gain on the same move of the underlying stock than At The Money Options ( ATM Options ) or In The Money Options ( ITM Options ).
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Assume GOOG trading at $300 now.
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Call Option Status
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Strike Price
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Price Per Contract
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Delta Value
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If GOOG is $301
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GOOG expired at $300
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GOOG expired at $500
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OTM
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$400
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$0.10 x 100 = $10
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0.2
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$20
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$0
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$100 / $10 = 1000% Gain
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ATM
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$300
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$7.00 x 100 = $700
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0.5
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$50
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$0
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$200 / $700 = 28.5% Gain
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ITM
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$200
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$101.00 x 100 = $10100
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0.8
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$80
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$100
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$300 / $10100 = 2.9% Gain
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Many 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 Out Of The Money Options ( OTM Options ) will still be left
worthless upon expiration while the In the Money Options ( ITM Options ) would still be left with its intrinsic value.
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2. Cheapest to buy in absolute dollars than At The Money Options ( ATM Options ) or In The Money Options ( ITM Options ).
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Assume GOOG trading at $300 now.
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Call Option Status
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Strike Price
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Price Per Contract
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Delta Value
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If GOOG is $301
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GOOG expired at $300
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OTM
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$400
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$0.10 x 100 = $10
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0.2
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$20
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$0
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ATM
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$300
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$7.00 x 100 = $700
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0.5
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$50
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$0
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ITM
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$200
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$101.00 x 100 = $10100
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0.8
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$80
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$100
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Beginner option traders need to remember
that every stock option 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.
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Disadvantages Of Out Of The Money Options ( OTM Options )
1. You can lose all your money when the Out Of The Money Options ( OTM Options ) expire worthless.
2. Highest risk of loss than In The Money Options ( OTM Options ) and At The Money Options ( ATM Options ). Because Out Of The Money Options ( OTM Options )
requires the underlying stock to move significantly, exceeding its strike price in order to result in a profit.
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Assume GOOG trading at $300 now.
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Call Option Status
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Strike Price
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Amount GOOG Needs To Rise For Profit
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OTM
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$400
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$101
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ATM
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$300
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$7 (premium value)
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ITM
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$200
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$1 (premium value)
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The advantages and disadvantages of Out Of The Money Options are condensed and governed by its Options Leverage which can be mathematically measured.
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