How do options work?

How do options work?

If you’re new to trading, you’ve probably come across a lot of words that don’t seem to make a lot of sense. Are you interested in options? If so, you’re in luck. has put together this article to help you understand how options work, options examples and more. 

Options Defined 

If you’re trying to figure out if trading options is right for you, you should first understand what options are. An options explanation can turn into something complicated very quickly, so let’s simplify. As with most investing products, an option is a contract. It is exactly how it sounds. This specific type of contract gives you the right to buy or sell an asset at a specific price by a specific date. It’s essentially a contract that is giving you the option to follow through. 

How Do Options Work? 

Again, as with most investment products, you’re going to want to determine the probability of the future prices of certain assets. You can assume that the more likely it is that something will happen, the more expensive a related option would be. 

The basic steps of trading an option are:

  • Identify the asset you want to buy or sell.
  • Enter a contract to determine a premium, cost and expiration date.
  • If you’re the buyer, you pay the premium cost.
  • Monitor the asset and decide whether you want to follow through on the contract to buy or sell. 

Here are some key factors to understand about options:

  • Options are typically sold in increments of 100. So you should be sure to multiply the premium of your contract by 100 to get the total cost of your option. Also multipliers of 10, 1000 and even 10000 occur, please check the financial information of a option before you buy the product so you won’t be surprised.
  • The more time you have in your contract, the more valuable your option could be. This is because the more time there is, the more chance there is for the price to change.
  • If you’re the buyer of an option, you are not obligated to go through with buying. However, you will not get the premium back if you choose not to follow through. The only risk to entering the options contract is losing the amount you spent on the premium. So be sure you’re comfortable with losing the cost of your premium if it comes to that.
  • On the other hand, sellers may be required to make good on the options contract to sell. Sellers have greater risk and can lose much more than the cost of the options contract premium. 

Types of Options

If you want to trade options, you’ll need to understand the different types of options. Even though the options we talk about below seem like they’re related to geography, understand that geography has nothing to do with it. 

American options: These options can be exercised at any time between the date you purchase your option and the expiration date that is set on your option. This option type typically has a higher premium since it is allowing you to exercise your option at any time.

European options: Unlike American options, European options can only be exercised as the expiration date gets closer. 

Exotic options: This type of option offers more variation. The payment structure and expiration dates can be different than the American or European options. If you’re looking for a more customizable option, this is what you’ll probably want to look for. 

You’ll also need to understand the difference between call and put options:

  • A call option gives you the right to buy a stock. 
  • A put option gives you the right to sell a stock. 

Call Option Example 

You might be asking “how do call options work?” Let’s say there’s a new business opening up in your town. It seems like it’s going to be a profitable business with a lot of potential. You’re considering offering to buy the business with the hopes of getting in at the start of something big. Of course, this is a risk on your part. 

Even though the business shows a lot of potential, there’s no way to know how things will turn out. This is where call options would benefit you. If you could buy a call option on the business, you could offer to purchase the business at $500,000 sometime in the next 5 years. 

Now, the current owner of the business would want to know you’re serious. So imagine that they would require a down payment of $50,000. If this were an options contract, that down payment would be referred to as the premium. The premium is the price of the option contract. 

Now let’s fast forward 2 years. The business is booming, and it is now worth closer to $1 million. You decide at this point that you want to go ahead and exercise your option to purchase the business for $500,000. You can do this even though it is less than the current value of the business because you locked in the price with your down payment. 

Start of Contract 2 Years Later
Value of Business Undetermined $950,000
Your Price $50,000 down payment $500,000

Put Option Example 

You might want to have an option to sell your asset at a set price if you fear that your asset’s worth might plummet. This will allow you to protect yourself from losing a larger amount of money. 

So how do put options work? Let’s say that you fear that your stock in Apple is about to become much less valuable. So you decide to take out the option to sell it, just in case. It’s currently trading at $3,000, so you decide to take out the option to sell it at $2,700 at any time in the next 3 years. 

You’ll have to pay the premium, let’s say that’s $300 in this case. So if you decide not to sell, you’ll lose this $300 but you’ve probably gained much more by keeping your stock. If you’re right and the stock plummets, you can sell it for the $2,700 you locked in, even if it’s only selling at $2,200 when you sell it.

  Start of Contract 2 Years Later
Stock Price $3,000 $2,200
Your Price $300 down payment $2,700

Best Options Brokers 

If you want to trade options, you’re going to need to find a broker. There are lots of brokers out there, but not all of them have the capability to trade options. Even if they do, you’ll want to consider if the trading platform is geared specifically for trading options.

New Stock to watch ROKU

New Stock to watch ROKU

Stock Analysis

Roku Incorporated (NASDAQ: ROKU)

February 13th, 2020
Xavier Loor is in no way associated with Roku Inc. and its associates. This report provides a baseline for investment decision making purposes and should not be solely used when making final decisions. For more information regarding the services provided by you may contact our helpdesk at or through the phone number indicated on our website.

Company Overview

Roku is an American company that specializes in the manufacturing of devices that provide a wide range of streaming and television channels. Roku’s stock was first made public through NASDAQ on September 29th, 2017 at an IPO price of USD $14 and at an opening price of USD $26.54.

Historical Stock Value

Roku’s stock shows that between 2017 and 2018 the stock experienced gradual increases and decreases in value which resulted in the stock having nearly the same value as its initial opening price near the end of 2019 or almost no growth since the date of the initial public offering. In 2019, the stock experienced massive growth, reaching a peak price of USD $169.86 before falling and closing at a year-end price of USD $133.89, a 404.48% increase from its initial opening price.

Figure 1: Roku’s Stock Graph (February 12th, 2020)


Overall, Figure 2 shows that Roku’s stock has experience large amounts of growth in every month where the price changes have been positive. The stock’s price fell heavily in September due to a poor future outlook at the time after the 3rd Quarter earnings were released. The decreases in value in the other months are relatively smaller than the monthly increases which resulted in an upwards trend between these last 12 months.

Financial Analysis

Roku’s recent annual reports (Refer to Figure 3) show that the total revenues are increasing at a faster rate than the cost of revenue, an indication of increasing efficiency in its production. However, its operating expenses were shown to be increasing at faster rate than its revenues, therefore showing that Roku lacks efficiency in that area.


Figure 4 shows that Roku has nearly outpaced its 2018 total revenue earnings in its first 3 Quarters of the 2019 period but has incurred larger net losses due to larger operating expenses. This could be partially blamed on Roku’s international expansion efforts.


The combined Quarters has a Gross Margin and Operating Margin of 46.48% and -6.64% respectively. This is a slight improvement from 2018’s Gross Margin of 44.73% but the Operating Margin is nearly 5 times worse from 2018’s value of -1.79%.


Implications and Verdict

Overall, there are many positive factors that point to Roku’s stock value increasing in the future term:


  • The growing streaming market with a compounded annual growth rate of 20.4% per year starting in 2020 (estimated value of USD $184 Billion by 2027);[1]
  • Reduced competition for viewers as a result of obsolesce of cable television;
  • Roku’s access to large streaming services such a Netflix and the recently released Disney+ as well as direct access to some cable networks;
  • The recent coronavirus outbreak forcing more people to stay home and stream content/use the internet to pass the time;[2]
  • The stock hasn’t fully recovered from the drop when it reached it’s all time high value, the stock must grow 22% for it to reach that same peak;
  • Roku’s focus on revenue after its acquisition of DataXu, a company that helps marketers plan and buy video ad campaigns.[3]


The most important factor that will determine Roku’s stock price for the near future will be its 4th Quarter earnings report which will be released on February 13th, 2020 after the stock market closes. The stock will likely rise if Roku releases an earnings report that beats analyst expectations especially in the case where the coronavirus is beneficial to Roku’s revenue. But one must be weary in the case where negative news (such as poor future outlook) may come along with the report and instead cause the stock price to drop no matter the result of the earnings report.


It is recommended that for risk-takers who believes that the stock will rise after the earnings report is released, a call option should be purchased today. Risk-averse investors who have the same beliefs should consider purchasing the stock itself to mitigate any potential losses.