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What Is an Options Contract?
An options contract is an agreement between two parties with the purpose of giving the holder of the contract the right to buy or sell the underlying asset at a specified price within a certain time.
Common types of assets an options contract may cover include:
- Stocks
- Securities
- Real Estate
Possibly the most important aspect of an options contract is that while it gives someone the right to buy or sell an asset, the individual who purchases the option is not required to buy or sell.
There are two kinds of options contracts, called call and put options. You can buy options contracts to speculate on stocks, or you can sell these contracts to generate income.
Typical stock options contracts cover 100 shares of an underlying stock, although this amount can be adjusted for:
- Mergers
- Special dividends
- Stock splits
How Does an Options Contract Work?
An options contract includes terms that specify:
- The contract's expiration date
- The strike price, or the price at which an underlying asset may be transacted
- The underlying asset
You can generally purchase call options as a leveraged bet on a stock or index's appreciation. You generally purchase put options, on the other hand, to make a profit when prices decline.
Call option buyers have the right, but are not required, to buy the amount of shares that the contract covers at the set strike price. The opposite is also true: Put buyers have the right but are not required to sell their shares at the strike price a contract sets.
However, option sellers must transact their side of any trade if the buyer chooses to either execute the call option and purchase the underlying asset or execute the put option to sell the underlying asset.
Traders typically use options for hedging or speculation. This is because options usually cost just a part of what the underlying securities themselves would cost. You can use options as a way of getting leverage, as they allow an investor to bet on a stock without needing to buy or sell those shares outright.
What Is a Put Option?
You would typically purchase a put option when you expect to profit from the price of an asset declining. Buyers of a put option own a right to sell their shares at the strike price listed in the contract.
The buyer of a put option can only exercise their right to sell the shares to the seller of the contract at the strike price. The buyer also has the option to sell their contract if the shares aren't held in the portfolio.
What Is a Call Option?
You would typically buy a call option to leverage the price of an asset such as a stock, index, or other asset. You have the right to buy a set amount of shares at the strike price, but are not obligated to make the purchase. The contract should specify both the number of shares (or other assets) you purchase as well as the strike price.
When a call option transaction occurs, the position opens when the buyer purchases a contract from the seller. The seller is also called a writer in these transactions. The seller of a call option receives a premium when they assume the obligation to sell their shares at the strike price. The buyer benefits by getting the option to purchase the asset at the strike price, no matter if the value of the asset increases above that price in the period of time covered by the contract.
Here is an article with more information about put and call options.
Why Do People Choose Options Contracts?
Options contracts have a few different advantages. These benefits include:
- The seller receives a premium: The seller of an options contract receives a payment (the premium). They get that premium regardless of what happens with the contract after that point. That's why you'll find options traders who use received premiums as a big amount of their portfolio income.
- The buyer can lock in their right, without paying a lot: The buyer of the option also benefits. They can lock in their right to acquire the asset involved in the contract while only putting up a small amount of their money upfront. Since options contracts usually cost just a part of what the stock or other asset would cost — and the strike price is only due if the owner of the option decides to exercise their contract — the contract owner can gain the right to buy the asset at an attractive price.
- Options contracts give investors flexibility: If an investor uses options contracts well, it gives them the flexibility to take action with their portfolio and can help control risk while maximizing returns.
Image via Unsplash by austindistel
Common Areas Where Options Contracts Are Used
You will most frequently see option contracts in the financial industry. Options contracts are also sometimes found in real estate.
Options Contracts in Financial Industry
You can option the chance to buy or sell stock at a certain price for a specified period of time. Again, the buyer of the option is not obligated to exercise their option.
Options Contracts in Real Estate
Option contracts are sometimes used in real estate transactions. This is because a potential buyer of a property often needs additional time to complete steps such as securing funding and inspecting the property before they make an actual purchase. A seller and potential buyer can therefore agree on a certain selling amount while the buyer completes any necessary steps. Once the buyer agrees to terms within that set time period, the parties can create a binding contract for the transaction.
Here is an article with further reading about real estate options.
Options Contracts as Part of an Employment Offer
Many companies, especially startup companies and small businesses, offer options contracts as part of their benefits package. Employee options contracts offer employees the option to purchase stock in their company at a very reduced price. However, the price of the stock is determined by the option contract.
This arrangement has benefits for both the employer and employee. Both the business and the employee hope the company stock will rise in price, giving the employee incentive to work hard to make that happen.
What Is Included in an Options Contract?
Options contracts contain the elements of a typical contract, including:
- The offer made by a promisor
- The acceptance of a promisee
- Consideration (this is the exchange of something of value for something else of value)
- Mutuality of parties
- Legal capacity for parties to enter into the contract
- Legally acceptable terms
An options contract will typically include the following additional elements:
- The underlying security
- The type of option (whether it is a call option or a put option)
- The commodity involved in the contract
- The date on which the contract is enforced
- The strike price
- The expiration date
You may want to use an options contract to purchase stock options or real estate, or you may wish to offer stock options to employees. It's important to work with an experienced lawyer when creating these contracts.
Meet some of our Options Contract Lawyers
Amber M.
Amber Masters has over 9 years of experience as a contracts attorney, helping small businesses with an array of agreements, such as purchase agreements, master service agreements, and employment contracts. She has an extensive background in employment agreements for dentists, doctors, and other health care professionals. She is a highly rated and acclaimed estate planning attorney and personal finance expert, who has been featured on CNBC, NBC, and Yahoo Finance. She successfully launched and sold a fintech startup and can empathize with the issues small and mid-size businesses face. Licensed in Oklahoma and Arizona.
Jason H.
Jason has been providing legal insight and business expertise since 2001. He is admitted to both the Virginia Bar and the Texas State Bar, and also proud of his membership to the Fellowship of Ministers and Churches. Having served many people, companies and organizations with legal and business needs, his peers and clients know him to be a high-performing and skilled attorney who genuinely cares about his clients. In addition to being a trusted legal advisor, he is a keen business advisor for executive leadership and senior leadership teams on corporate legal and regulatory matters. His personal mission is to take a genuine interest in his clients, and serve as a primary resource to them.
Richard N.
I have been practicing law for 35 years. In addition to my law degree, I hold an MBA. I've created six companies, currently act as outside counsel to another 12, and have been an advisor to more than 500 startups and entrepreneurs.
Alan B.
In my professional career, I have been a commercial litigator practicing nationwide, in-house counsel at publicly-traded and start-up companies, a private transactional attorney, and a registered lobbyist. With my broad experience, I focus my practice on transactional and regulatory matters for new and existing businesses. I work comfortably in-person and remotely, and I am available for travel, as necessary.
Michelle T.
I am an experienced, well-rounded attorney with a background specializing in trusts and estates, contracts and business law. I have extensive experience working with simple contracts all the way up to multi-million dollar deals.
October 5, 2023
Melissa T.
Having more than ten (10) years of experience in commercial law, I have garnered both relevant in-house and law firm experience. With more than a combined seven (7) years in-house experience, I have gained valuable insight in balancing the business needs with the legal risks and applying the legal skills I have acquired to various fields. I have specific experience with SaaS, vendor contracts, customer contracts, and general marketing agreements. Moreover, my law firm background has taught me to be detail-oriented and to be an effective negotiator in all types of commercial dealings.
October 5, 2023
Melody P.
I have been practicing law since 2005 and am licensed in the state of Pennsylvania. I started in Pittsburgh, PA and then moved to Williamsport in 2007 where I have practiced family law almost exclusively since. I am the managing partner /owner of Protasio & Jasper, P.C. I have had multiple Pennsylvania Supreme Court family law cases that have changed the law in Pennsylvania. I pride myself on being able to arm clients with information so that they can make informed decisions about their case.
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Options Contract
Pennsylvania
Can you draft a real estate option agreement that is legal in PA and NY?
Hi, My name is Shawn Mallett. I am a real estate marketer and seller that is not real estate salesperson licensed. Can you confirm whether or not it is legal for me to utilize an option to purchase contract with a seller/wholesaler with the intention to sell and assign the contract (with the seller knowing this intention) rather than the intention to close on it myself? How much would you charge to confirm the legality of the following contract in both PA and NY and make the appropriate changes if needed? Option to Purchase Real Estate Agreement Date: 06/21/2021 This option agreement is entered between the Parties, Optionor(s) and Optionee(s), below in consideration of and subject to the following terms and conditions. 1. Parties ________________ and/or assigns as Optionee and _________________ as Optionor. 2. Property located in the Town of _________, County of _________, state of _________, to wit: Lot: ___________ Grid Number: ____________ 3. Offer: Optionee has the option to purchase this property at a price of __________________. 4. Period: 3 Years (1,095 days) 5. Terms and Conditions: ‐ Optionor understands that Optionees’s intention is to find an End‐ Buyer and assign this option agreement to that End‐Buyer for a fee (paid by the End‐Buyer). ‐ Optionor understands that Optionee is acting as a principal in the transaction and is not working as a licensed real estate broker representing anyone in the transaction. ‐ Upon Optionee’s decision to exercise this option, both parties agree to move forward with the necessary standard purchase and sales agreement. ‐ Optionor may cancel this agreement at any time if they find their own End‐ Buyer or decide not to sell. This cancellation must be done in writing. ‐ Optionor agrees to allow Optionee to advertise the property for sale. ‐ If Optionee does not acquire an End‐Buyer to assign this deal to within 3 years (three year) of acceptance of this Option Agreement, this agreement becomes null and void. ‐ All parties agree that property is sold in “as is” present condition unless noted otherwise. ‐ Time is of the essence in this agreement. OPTIONOR:____________________ DATE: 06/21/2021 OPTIONEE:__________________________________________________________________DATE: 06/21/2021 Thanks.
Samuel R.
Yes I can draft this agreement for you.
Business Contracts
Options Contract
California
Can I negotiate my stock option agreement?
I am being offered stock options by a potential employer. What can I negotiate?
Michael M.
In general a stock option agreement is a mutually agreed upon contract. However, these documents must conform to to the terms of the Stock Option Plan. Typically, the only true negotiable item is the quantity of options one is receiving but each situation is fact specific.
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