The phrase "In The Money" (ITM) refers to one of the categorization terminologies used to describe an option contract.
Trading and investing professionals may use this categorization to help them decide which strike to trade during a certain market circumstance.
Intrinsic value is a monetary value assigned to an asset by financial analysts to determine its worth based on a certain underlying financial model.
What Is "In the Money" (ITM)?
"In the money" (ITM) refers to an option with intrinsic value.
ITM does not always imply that the trader is profitable. Additionally, purchasing the option and any commission costs must be calculated. Contrast in-the-money options with out-of-the-money (OTM) options.
An option contract with intrinsic value is in the money when written. A call option—which allows the buyer the right, but not the duty, to purchase an asset at a predefined price on or before a given date—is in the money if the underlying asset's current price surpasses the agreed-upon price, referred to as the "strike price." Buying the underlying asset at a discount to its present value is possible via the buyer's execution of an option contract, who may deduce an intrinsic value in the call from these results.
In contrast, a put option—which authorizes the buyer to sell an asset at a specific price on or before a certain date—is ITM if the underlying security's price is less than the strike price. The buyer may exercise their option contract right and sell the underlying asset for a premium over its current value, proving that the put has inherent value.
In the money (ITM) is defined by option moneyness - the status of the underlying asset in comparison to the price at which it may be purchased or sold (its strike price). On the other hand, the money refers to an option* on an underlying asset that has exceeded its strike price, implying that it has an intrinsic value greater than £0.
When the exercise price of a call option is less than the current market price of the underlying asset, the option is in the money. Still, when the exercise price of a put option is more than the current market price of the underlying asset, the option is out of the money.
When an asset's price does not exceed the strike price, it is said to be out of the money. If it equals the strike price, it is profitable. Ideally, a trader's option should be in the money at expiration; otherwise, it will expire worthlessly.
The money indicates that the option has intrinsic value and is exercisable. However, the fact that an option is characterized as in the money does not guarantee that it will profit. Because an option requires money to purchase, it is regarded as lucrative only if the profit earned on the trade exceeds the original premium paid.
When an option is already in the money, the premium might be increased. Additionally, the premium on an option may be larger if there is a greater likelihood that the option would shortly expire in the money, such as during times of increased volatility or if the option has a substantially longer expiration date.
In the money example
Assume that business ABC's shares are now trading at $300 a share. A call option with a strike price of $250 would be in the money if the option holder could purchase it and immediately sell it for $250 – the option's intrinsic value would be $50.
Alternatively, if you purchased a put option on ABC stock with a strike price of $350, you would be profitable because the option holder might purchase the option and immediately sell it for $350. $50 would be the value of the option.
On the other hand, if an option is already in the money at the moment of purchase, the trade must move farther into the money to benefit.
What Is the Mechanism of In the Money?
Generally, an option contract has a specified price, or strike price, at which an underlying asset is traded. The holder of an option contract has the right, but not the responsibility, to purchase or sell the asset at the strike price on the specified date. In the case of in the money, ITM, options, the option value or strike price at which the option is exchanged is more advantageous than the underlying security's market price. The option also affects how ITM works; if it is a call option, the holder may acquire the underlying securities at a price to its market value. If the option is a put, who may sell the security for a price.
Other types of option
Out of the Money
If an option contract expires out-of-the-money, it has no inherent value. The call option is considered out-of-the-money if the underlying asset's current price is lower than the strike price. Because they would be paying more than the current value of the underlying asset, the buyer of the call option would be unable to exercise their right to acquire the underlying asset under the option contract's terms.
On the other hand, a put option is worthless if the underlying security's current price is higher than the strike price. The put option buyer would not exercise their right to sell the underlying asset under the option contract as they would obtain less than the asset's current worth.
If a call option's strike price is $5 and the underlying stock is now trading at $4, the option is out-of-the-money. The lower the price falls below $5, the more OTM the option becomes.
If a put option's strike price is $5 and the underlying stock is now trading at $6, the option is out-of-the-money. The greater the option price exceeds $5, the more OTM it is.
Since this OTM put and call cannot execute options profitably, they have no intrinsic value.
At the Money
If the strike price of an option contract is equal to the underlying asset's price, the option is ATM. If a call or put option's strike price is $5 and the underlying stock is now trading at that price, the option is ATM. Because ATM put and who cannot execute call options for a profit have no intrinsic value.
Which Is Better, in the Money or Out of the Money?
The fact that an option is in the money or out of it does not always imply that it is superior to the other. It ultimately relies on your investment objectives and what you're attempting to accomplish. For instance, if you hold in-the-money call options, you may profit from the trade if the strike price remains below the market price. In the case of put options in the money, the converse is true.
Additionally, out-of-the-money options have smaller premiums, which means they are less costly to trade. Therefore, if you are a cost-conscious investor, this is another element to consider when considering whether to pursue in-the-money or out-of-the-money options in your portfolio.
When determining the value of an option, intrinsic value is just one factor to consider. Additionally, it would help if you considered the value of time. The term "time value" refers to the time left before an option expires. The greater the duration of this window, the greater the time value an option has since the probability of it being profitable increases.
This implies that even if an option is out of money and has no intrinsic value, it may retain temporal value. Considering this kind of situation might assist you in determining if purchasing out-of-the-money options makes sense.
Finally, you should be aware that option values may follow the third route. At the money, options are those with a strike price equal to the underlying asset price. Thus, if you execute a call or put an option at the money, you will earn no benefit. As a result, the option's intrinsic value would be zero.
ITM Call option VS. ITM Put option
As previously stated, an ITM call option occurs when the call option's strike price is less than the current market price of the underlying asset, resulting in a positive intrinsic value. This enables you to purchase the security at its current market price. This trading strategy needs expertise, knowledge, patience, and timing to weather the option's contract expiry term without reducing its intrinsic value by completing the trade prematurely. In The Money does not necessarily mean a profit or a favorable return. Additionally, premiums are connected with stock options and possibly charges or brokerage costs associated with the trade execution. The ITM call option requires that the stock's market price increase enough to pay the trader's entire outlay (purchase price, premium, fees, etc. ), at which point the excess profit has been deemed a profit. Notably, ITM options are often more costly than other options, and investors must compensate for the profit earned on the option's contract.
Note: An in-the-money put option is the polar opposite of an in-the-money call option. An ITM put option is a negative investing strategy in which investors are permitted to sell the underlying stock hoping that the real market price will fall further than the strike price.
What Is the ITM Put Option?
When a put option is in the money, it indicates the option holder has the right to sell the underlying asset at a strike price greater than the asset's current market value. Investors acquire stocks of this kind in the hope that the stock's price will decline before the maturity date, allowing them to recoup the premium paid for the put option.
A Quick Overview of Options
Call option options are optimistic about the asset's price increasing and closing above the strike price by the option's expiry date. Although investors may trade options on various financial items, including bonds and commodities, stocks are the most popular.
The buyer is given the option—but not the obligation—of purchasing or selling the underlying securities at the strike price indicated in the contract by the stipulated expiry date. The strike price is the underlying security's shares' market value or execution price.
Investors must pay an upfront price, referred to as the premium, to purchase options. Numerous things contribute to the premium's value. These criteria include the underlying security's current market price, the time remaining before the expiry date, and the strike price's value concerning the security's market price.
Typically, the premium represents the value placed on an option by market participants. A valuable option will almost always have a larger premium than one with a limited likelihood of value for the investor.
The intrinsic and extrinsic options of a value are the two components of the premium. In-the-money options have both intrinsic and extrinsic value, but the premium on out-of-the-money options is only extrinsic (time) value.
Which call will result in the most profit?
Suppose EnCana's target price for December is $65.00, and that price is met at expiry. In that case, the at-the-money option is the best bet, yielding a 133 percent premium over the in-the-money option and a 117 percent premium over the out-of-the-money option.
However, with a target price of $63.00, the in-the-money option becomes the superior pick, returning 49 percent, compared to 40 percent and -57 percent for the at-the-money and in-the-money options, respectively. Finally, suppose the target price is much higher, as in our example when EnCana closed at $68.10 at expiry. In that case, out-of-the-money options provide the highest return of 387 percent, compared to 277 percent and 186 percent for at-the-money and in-the-money options, respectively.
Advantages and Disadvantages of the In-the-Money Call Option
Advantages of an in-the-money call option
At expiration, a call option holder who is in the money (ITM) has a chance to profit if the market price exceeds the strike price.
If the market price falls below the strike price, an investor owning an in-the-money put option has a chance to profit.
Disadvantages of an in-the-money call option
In-the-money options are more costly than other options since investors are paying for the contract's profit.
Additionally, investors must include premium and commission charges when calculating the profitability of an in-the-money option.
When is a call option considered to be in the money (ITM)?
When a call option's strike price is less than the underlying stock's current market price, the call option is deemed In The Money (ITM), enabling its owner to purchase the underlying stock at a discount to the current market price by exercising the call option.
The term "In The Money Option" refers to an option with a strike price that is exceptionally near the strike price.
For example, if GOOG is trading at $300, its $200 strike call options are In The Money (ITM), which enables investors to purchase the stock for $200 if it is currently trading at $300. As a result, the $200 strike call option has an intrinsic value of $100.
An option's value is composed of two components: intrinsic value and temporal value. The longer an option has before it expires, the more time value it has. That is because the longer the time period to expiry, the more likely the option will become ITM and hence have intrinsic value.
When determining the premium, they are prepared to pay; an option buyer must evaluate the intrinsic value of the underlying asset and the option's temporal value. An option may be out-of-the-money and hence have no intrinsic value, yet retain temporal value until it expires. If an ITM option has an intrinsic value of $10, the premium should be more than $10 due to the time value associated with the period of time the underlying asset must remain ITM.
Conclusion
To summarize, the golden rule of money categorization is that if the option's intrinsic value is a positive number, it is deemed In The Money. The advantages of trading ITM options include the prospect of profitably selling the stock when the current market price is more than the strike price; in the case of the ITM call option, this is the case when the current market price is greater than the strike price. Similarly, in the case of the ITM put option, you might expect to benefit when the market price is less than the strike price. On the other hand, ITM options are known to be more costly than other types of options. Additionally, you must include the accompanying premiums and commission/brokerage charges when determining the ultimate profitability of an ITM option.
Most readers are probably aware that options trading can be exceedingly volatile and unexpected, as recent world events have repeatedly proved. Geopolitical events, natural catastrophes, and worldwide pandemics, to name a few, may generate severe market disruptions. This, in turn, suggests that the ITM options trading method is best suited to those with the appropriate market knowledge and expertise and sufficient cash with which to execute these options. Additionally, it takes patience and self-discipline to time the trade exactly just before the option's contract expiry date in order to maximize the value of your ITM call option. Small investors would be wise to sell their options far in advance of their expiry date rather than exercise them.
Frequently Asked Questions (FAQs)
What happens if a call option is exercised before it expires in the money?
Because ITM call options are virtually always exercised before expiry, they do not technically "expire." If a call option is in the money on expiry day, the trader will either exercise it and purchase the underlying stock at the strike price or will sell it to another trader who wishes to execute it. Check to see if your brokerage has an auto-exercise tool that automates this operation on the expiry date at market close.
Why am I losing money on an ITM call?
The fact that an option is in the money or not is just one aspect that influences option pricing. If you paid a big premium for the call, it might be necessary for your position to be deep in the money before it becomes lucrative. Options traders employ implied volatility, delta, and vega to better understand the factors affecting their bets.
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