A contract giving the holder the right but not the obligation to trade in a commodity, a share, or a currency on some future date at a pre-agreed price. A European option can only be exercised on the agreed date whereas an American option can be exercised at any time until the agreed date. A ‘put’ option gives the holder the right to sell at a pre-agreed price. This can be used to reduce risk by somebody who has to hold the actual asset and is worried that its price may fall; it can equally be used to speculate on a price fall. A ‘call’ option gives the holder the right to buy at a pre-agreed price. This can be used to reduce risk by people who expect to need the asset in the future and are worried that its price may rise before they buy; it can equally be used to speculate on a price rise. An options market is a market in which options are traded; these exist for many widely traded goods, shares, and currencies. Share options give a right to buy company shares at a future date at a pre-agreed price; they are used by companies as incentives for their executives. An option is contrasted with a futures contract, which carries the obligation as well as the right to trade. See also call option; put option; share option.
From: option in A Dictionary of Economics »
Subjects: Social sciences — Economics