Frequently Asked Questions About Options: Part 5
...continued from Part Four
What Are The Similarities And Differences Between An Exchange Traded Option And A Futures Contract?
Although options and futures are completely different securities, there are some similarities. One similarity is the standardized terms. A standard, exchange traded equity option, calls for the delivery of 100 shares of stock.
A single standardized futures contract, for example, may call for delivery of a certain quantity and quality of a particular commodity (oil, wheat, corn, etc.) or a certain number of currency units for foreign currency futures.
Another similarity is the standardized expirations - although the expiration dates may differ. Lastly, centralized clearinghouses guarantee futures and option contracts. This makes counterparty risk -- the risk that the other party will default on the terms of the trade -- nearly obsolete.
One of the many differences between options and futures is that a futures contract obligates both the buyer and the seller to deliver the underlying upon expiration unless an offsetting position is taken. Buying or selling a futures contract to open a position is literally like buying or selling the underlying at a future date.
With an option, only the option writers (those who "sell to open") have obligations. Option buyers have rights to exercise and buy the underlying (long call) or sell the underlying (long put).
Another difference is long stock options must be paid for in full, whereas a futures contract may only require a small percentage of the value of the trade be deposited in cash (referred to as initial margin).
Futures contracts are "marked-to-the-market" daily resulting in a debit or credit to the account ñ and possibly a need for additional funds in the account. Options are not marked-to-the-market. Debits and credits with options occur only upon sale and purchase or exercise and assignment.
These are just a few of the similarities and differences. There are many more differences that should be considered prior to entering into a transaction. You should consult your broker for details.
How Do LEAPS Differ From Conventional Options?
LEAPSÆ or Long-term Equity AnticiPation Securities are options, both calls and puts, with expirations as far out as two and one-half years. Conventional options will typically offer contracts with expirations up to nine months in the future.
Currently, equity LEAPSÆ will have two series at any time with January expirations. For example, in August 2002, LEAPSÆ for a particular stock might be available with expirations of January 2004 and January 2005. Since equity LEAPSÆ expire only in January of these years, these LEAPSÆ will have different options "root symbols" to distinguish one year from another.
(For more information on LEAPSÆ, review Let's Talk About Leaps: Options For The Long-Term)
Continued In Part 6...
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About The Options Industry Council
The Options Industry Council (OIC) was created in 1992 to educate investors and their financial advisors about the benefits and risks of exchange-traded equity options. Today, its sponsors include the American Stock Exchange, the Boston Options Exchange, the Chicago Board Options Exchange, the International Securities Exchange, NYSE Arca, the Philadelphia Stock Exchange and The Options Clearing Corporation. Our experienced options seminar instructors provide valuable insight on the challenges and successes that individual investors encounter when trading options. In addition, options industry professionals have created the content in our software, brochures and Web site. Appropriate compliance and legal staff ensure that all OIC-produced information includes a balance of the benefits and risks of options.
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