1. In the Money (ITM):
• Call Option: A call option is in the money when the strike price is lower than the current market price of the underlying asset. This means the option holder could buy the asset at a price lower than its current market value, resulting in an immediate profit if they exercise the option.
• Put Option: A put option is in the money when the strike price is higher than the current market price of the underlying asset. In this case, the option holder could sell the asset at a higher price than its current market value, again leading to an immediate profit upon exercising the option.
2. At the Money (ATM):
• An option is at the money when its strike price is approximately equal to the current market price of the underlying asset. At this point, there’s no intrinsic value in the option, meaning exercising it would neither result in a profit nor a loss (excluding transaction costs and fees).
3. Out of the Money (OTM):
• Call Option: A call option is out of the money when the strike price is higher than the current market price of the underlying asset. In this scenario, exercising the option would lead to an immediate loss because the option holder would be buying the asset at a price higher than its current market value.
• Put Option: Conversely, a put option is out of the money when the strike price is lower than the current market price of the underlying asset. If the option were exercised, the option holder would be selling the asset at a price lower than its current market value, resulting in a loss.
In summary, the distinction between in the money, at the money, and out of the money strike prices determines the potential profitability of an option if exercised immediately. It’s a crucial concept for options traders to understand when analyzing their trading strategies and managing risk.
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