What is an options contract?
In one line: An options contract is an agreement covering 100 shares of a stock that gives the buyer the right, and the seller the duty, to trade those shares at a set strike price on or before an expiry date, in exchange for a premium.
How it works
An options contract is a promise with four parts:
- The stock. Which shares the contract is about.
- The type. A Call option is the right to buy shares. A Put option is the right to sell shares.
- The strike. The Strike price the shares would change hands at.
- The expiry. The Expiration date after which the contract is gone.
One contract covers 100 shares. That's the Contract multiplier.
The buyer pays a premium and gets a right. They can use it or not. The seller receives the premium and takes on a duty. If the buyer uses the right, the seller must deliver: hand over shares (a short call) or buy shares (a short put).
That duty is the whole business of the wheel strategy. You're the seller. The premium is your pay for a promise you may be asked to keep. US stock options can be exercised any time before expiry, so the promise can be called in early.
An example (hypothetical)
An illustration, not a trade idea. Made-up stock XYZ trades at $50. You sell one contract: an XYZ put, $45 strike, expiring in 30 days, for $1.00.
Written out, the contract says: "For $100, I promise to buy 100 shares of XYZ at $45 each, if the holder asks, any time in the next 30 days."
| XYZ at expiry | Does the buyer use the right? | What you must do | Result |
|---|---|---|---|
| $52 | No, they'd sell cheaper than market | Nothing; keep $100 | +$100 |
| $45 | Usually not | Probably nothing | +$100 |
| $42 | Yes | Buy 100 shares at $45, worth $4,200 | +$100 − $300 = −$200 |
| $35 | Yes | Buy 100 shares at $45, worth $3,500 | +$100 − $1,000 = −$900 |
The buyer's loss is capped at the $100 they paid. Yours isn't. The contract makes you the one who keeps the promise when it hurts.
Why it matters for sellers
Reading a contract as a promise, not a bet, changes how you size it. Before selling, say the promise out loud with the real numbers: "I will buy 100 shares at $45, which is $4,500, even if they're worth half that." If that sentence is fine, the contract is fine.
Three details sellers forget:
- You don't choose when the promise is called in. The buyer does. Early Assignment exists, especially before a dividend on short calls.
- The contract is standardized. Strike, expiry and size are fixed by the exchange. You can't negotiate; you can only pick which one to sell.
- You can leave early. Buying back the same contract ends the promise. It costs whatever the contract is worth that day, which may be more than you collected.
Each open contract also ties up collateral at your broker: cash for a put, shares for a covered call. See Collateral.
Questions
What are the parts of an options contract?
The underlying stock, the type (call or put), the strike price, the expiry date and the multiplier, normally 100 shares. The premium is the price paid for it.
What does the seller of an options contract have to do?
Keep the promise if the buyer exercises. A put seller must buy 100 shares at the strike. A call seller must sell 100 shares at the strike. The seller keeps the premium either way.
Can I get out of an options contract I sold?
Yes, by buying the same contract back before it's exercised. That closes your position. If the stock has moved against you, it costs more than the premium you received.
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