Difference between In-the-money (ITM), out-of-the-money (OTM), or at-the-money (ATM) Options

Difference between In-the-money (ITM), out-of-the-money (OTM), or at-the-money (ATM) Options
An option can be described by its strike price's proximity
to the stock's price. An option can either be in-the-money
(ITM), out-of-the-money (OTM), or at-the-money (ATM).

An at-the-money option is described as an option whose
exercise or strike price is approximately equal to the
present price of the underlying stock.

For instance, if Microsoft (MSFT) was trading at $65.00,
then the January $65.00 call would an example of an
at-the-money call option. Similarly, the January $65.00 put
would be an example of an at-the-money put option.

Please view charts below for at-the-money option examples.

An in-the-money call option is described as a call whose
strike (exercise) price is lower than the present price of
the underlying. An in-the-money put is a put whose strike
(exercise) price is higher than the present price of the
underlying, i.e. an option which could be exercised
immediately for a cash credit should the option buyer wish
to exercise the option.

In our Microsoft example above, an in-the-money call option
would be any listed call option with a strike price below
$65.00 (the price of the stock). So, the MSFT January 60
call option would be an example of an in-the-money call.

The reason is that at any time prior to the expiration
date, you could exercise the option and profit from the
difference in value: in this case $5.00 ($65.00 stock price
- $60.00 call option strike price = $5.00 of intrinsic
value). In other words, the option is $5.00 "in-the-money."

Using our Microsoft example, an in-the-money put option
would be any listed put option with a strike price above
$65.00 (the price of the stock). The MSFT January 70 put
option would be an example of an in-the-money put.

It is in-the-money because at any time prior to the
expiration date, you could exercise the option and profit
from the difference in value: in this case $5.00 ($70.00
put option strike price - $65.00 stock price = $5.00 of
intrinsic value. In other words, the option is $5.00
"in-the-money."

Please view charts below for more in-the-money option
examples.

An out-of-the-money call is described as a call whose
exercise price (strike price) is higher than the present
price of the underlying. Thus, an out-of-the-money call
option's entire premium consists of only extrinsic value.

There is no intrinsic value in an out-of-the-money call
because the option's strike price is higher than the
current stock price. For example, if you chose to exercise
the MSFT January 70 call while the stock was trading at
$65.00, you would essentially be choosing to buy the stock
for $70.00 when the stock is trading at $65.00 in the open
market. This action would result in a $5.00 loss.
Obviously, you wouldn't do that.

An out-of-the-money put has an exercise price that is lower
than the present price of the underlying. Thus, an
out-of-the-money put option's entire premium consists of
only extrinsic value.

There is no intrinsic value in an out-of-the-money put
because the option's strike price is lower than the current
stock price. For example, if you chose to exercise the MSFT
January 60 put while the stock was trading at$65.00, you
would be choosing to sell the stock at $60.00 when the
stock is trading at $65.00 in the open market. This action
would result in a $5.00 loss. Obviously, you would not want
to do that.

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Brett Fogle is the founder of Options University, a
training resource partner for traders. For a
comprehensive, free report on the 7 deadliest sins made
when options trading, visit
http://www.OptionsUniversity.com .