The most common way to trade options is via standardized options contracts that are listed by various futures and options exchanges. By publishing continuous live markets for option prices an exchange enables independent parties to engage in price discovery and execute transactions. As an intermediary to both sides of the transaction the benefits the exchange provides to the transaction include:fulfillment of the contract is backed by the credit of the exchange which typically has the highest rating counterparties remain anonymous enforcement of market regulation to ensure fairness and transparency and maintenance of orderly markets especially during fast trading conditions. Overthecounter options contracts are not traded on exchanges but instead between two independent parties. Ordinarily at least one of the counterparties is a wellcapitalized institution. By avoiding an exchange users of OTC options can narrowly tailor the terms of the option contract to suit individual business requirements. In addition OTC option transactions generally do not need to be advertized to the market and face little or no regulatory requirements. However OTC counterparties must establish credit lines with each other and conform to each others clearing and settlement procedures.
A trader who believes?
With few exceptions there are no secondary markets for employee stock options. These must either be exercised by the original grantee or allowed to expire worthless. The basic trades or traded stock options These trades are described from the point of view of a speculator. If they are combined with other positions they can also be used in hedging.Payoffs and profits from a long call.A trader who believes that a stocks price will increase might buy the right to purchase the stock a call option rather than just buy the stock. He would have no obligation to buy the stock only the right to do so until the expiration date. If the stock price increases over the exercise price by more than the premium paid he will profit. If the stock price decreases he will let the call contract expire worthless and only lose the amount of the premium. A trader might buy the option instead of shares because for the same amount of money he can obtain a larger number of options than shares. If the stock rises he will thus realize a larger gain than if he had purchased shares.Payoffs and profits from a naked short call.A trader who believes that a stock price will decrease can short sell the stock or instead sell a call. Both tactics are generally considered inappropriate for small investors. The trader selling a call has an obligation to sell the stock to the call buyer at the buyers option. If the stock price decreases the short call position will make a profit in the amount of the premium.
If the stock price increases!
If the stock price increases over the exercise price by more than the amount of the premium the short will lose money with the potential loss unlimited.Payoffs and profits from a long put.A trader who believes that a stocks price will decrease can buy the right to sell the stock at a fixed price. He will be under no obligation to sell the stock but has the right to do so until the expiration date. If the stock price decreases below the exercise price by more than the premium paid he will profit. If the stock price increases he will just let the put contract expire worthless and only lose his premium paid.Payoffs and profits from a naked short put.A trader who believes that a stock price will increase can buy the stock or instead sell a put. Shorting puts is generally considered inappropriate for small investors. The trader selling a put has an obligation to buy the stock from the put buyer at the put buyers option. If the stock price increases the short put position will make a profit in the amount of the premium. If the stock price decreases below the exercise price by more than the amount of the premium the short will lose money with the potential loss being up to the full value of the stock.If the stock price increases!
Payoffs from selling
Payoffs from sellingPayoffs from selling a straddle.Combining any of the four basic kinds of option trades possibly with different exercise prices and maturities and the two basic kinds of stock trades long and short allows a variety of options strategies. Simple strategies usually combine only a few trades while more complicated strategies can combine several.Strategies are often used to engineer a particular risk profile to movements in the underlying security. For example buying a butterfly spread long one X call short two X calls and long one X call allows a trader to profit if the stock price on the expiration date is near the middle exercise price X and does not expose the trader to a large loss.Selling a straddle selling both a put and a call at the same exercise price would give a trader a greater profit than a butterfly if the final stock price is near the exercise price but might result in a large loss.Contracts similar to options are believed to have been used since ancient times. In the real estate market call options have long been used to assemble large parcels of land from separate owners e.g. a developer pays for the right to buy several adjacent plots but is not obligated to buy these plots and might not unless he can buy all the plots in the entire parcel. Film or theatrical producers often buy the right ? but not the obligation ? to dramatize a specific book or script. Lines of credit give the potential borrower the right ? but not the obligation ? to borrow within a specified time period.Many choices or embedded options have traditionally been included in bond contracts. For example many bonds are convertible into common stock at the buyers option or may be called bought back at specified prices at the issuers option. Mortgage borrowers have long had the option to repay the loan early.Privileges were options sold over the counter in nineteenth century America with both puts and calls on shares offered by specialized dealers. Their exercise price was fixed at a roundedoff market price on the day or week that the option was bought and the expiry date was generally three months after purchase. They were not traded in secondary markets.
The Social Security The Social Security Trust Fund is the United States federal governments means of accounting for workers and employers paidin contributions to the Social Security system and benefits paid out to retired or disabled workers or their survivors as well as administrative expenses. More importantly it also provides the legal basis for making benefit payments in the future when FICA contributions will be less than aggregate benefit payments. The controversy over its meaningfulness is a topic of the sustainability of the unified Federal budget. Contributions that are in excess of current payments to beneficiaries the amount not yet for Social Security purposes is invested in securities issued by the government; those securities constitute the assets of the Trust Fund. These securities are counted as part of the national debt.The Social Security system is primarily a payasyougo system meaning that payments to current retirees come from current payments into the system. In the early s however expenditures were expected to exceed the revenues in the immediate future. In addition to fixing the shortterm problem with tax increases the Commission headed by Alan Greenspan took the projections which indicated that the eventual retirement of the numerous members of the postWorld War II baby boom would cause expenses to exceed revenues. Accordingly the Social Security tax was increased in so that it would be greater than necessary to pay for current expenditures thus accumulating a reserve that could be drawn upon when necessary. The surplus is accounted for in the Social Security Trust Fund. As of the end of calendar year the accumulated surplus stood at approximately . trillion. Projections are that current receipts will continue to exceed expenditures until or . Thereafter there will be a shortfall that will be made up by withdrawals from the Trust Fund although the Trust Fund will continue to show net growth until because of the interest generated by its bonds. The Trust Fund will gradually be drawn upon to cover the difference between tax receipts and benefit payments. It will be completely depleted by according to the Social Security Administration or according to the Congressional Budget Office. However if the US economy performs better than the economic assumptions and projections used by the SSA and CBO the trust funds may remain solvent indefinitely.
Social Security
From the point of view of the Social Security trust funds the holdings of special government bonds are an investment that returned . to the trust funds in . pp The trust funds cannot resell these special government bonds on the secondary bond market although the interest rate is determined based on market interest rates. Instead the specials can be sold back to the government at face value which is an advantage when interest rates are rising.To escape paying either principal or interest on the special bonds held by the trust funds the government would have to default on these obligations. This cannot be done by executive order. The Congress would have to pass legislation to repudiate these particular government bonds. This action by Congress could involve some political risk and because it involves the financial security of older Americans seems unlikely.An alternative to repudiating these bonds would be for Congress to simply cap Social Security spending at a level below that which would require the bonds to be redeemed. Again this would be politically risky but would not require a default on the bonds.The week after his State of the Union speech Bush downplayed the importance of the Trust Fund:
Social SecuritySome in our country think that Social Security is a trust fund in other words theres a pile of money being accumulated. Thats just simply not true. The money payroll taxes going into the Social Security are spent. Theyre spent on benefits and theyre spent on government programs. There is no trust. These comments were criticized as laying the groundwork for defaulting on almost two trillion dollars worth of US Treasury bonds. On the other hand Bush has referred to the system going broke in . That date arises from the anticipated depletion of the Trust Fund so Bushs language seems to suggest that theres something there that goes away in . Specifically in and for many decades thereafter the Social Security system can continue to pay benefits but benefit payments will be constrained by the revenue base from the . FICA Social Security payroll tax on wages. According to the Social Security trustees continuing FICA tax revenues at the rate of . will enable Social Security to pay about of promised benefits during the s with this ratio falling to about by the end of the forecast period in . Whether this means the system is broke is a debate for linguists and politicians.
