Investing > ‘In the Money’ Explained

‘In the Money’ Explained

In-the-money options have limited risk and can help you grow and protect your wealth. 

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Updated May 14, 2021

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Aside from indecisive fence-sitters and totalitarians, who hates having options? 

Exactly no one, which is why investors tense up every time the Federal Reserve has a press conference. When inflation lowers the purchasing power of each dollar, our choices become limited and we lose money—which is all too common at the moment. 💸

Before the Fed prepares to increase interest rates, you can devise a smart investment strategy to grow wealth, combat rising rates, and inspire you to sing “We’re in the Money” even if (or especially if) the money printer keeps going BRRRR.  

If you’re looking to branch out from traditional investments, stock options might be the right fit. As the name suggests, in-the-money options give investors a choice in how to get a return. 

In the following guide, you’ll learn what in-the-money options are and how they can help you gain wealth—or at least stay one step ahead of the walking dead. More specifically, we’ll explain how in-the-money options are different from other options and discuss strategies for exercising and selling these powerful gems.

Ready? Let’s get started! 🏁

What you’ll learn
  • Understanding ITM Options
  • In vs. Out of the Money
  • In the Money Call Option
  • In the Money Put Option
  • In the Money Trade Example
  • When to Sell ITM Options
  • What if Your Options Expire ITM?
  • Conclusion
  • In the Money: FAQs
  • Get Started Trading Options

Understanding “In the Money” (ITM) Options 📖

Traders don’t have to fight for their right to party when they have an in-the-money (ITM) option contract. The contract gives them the right, but not the obligation, to party—that is to say, ITM options are inherently profitable because exercising them gives you the ability to either sell the stock for a higher price than the current market value or to buy cheaper. 

But before we get an ITM buzz, let’s find out how ITM options work in more detail. Basically, when an option is ITM, a trader has the right, but not obligation, to buy or sell a stock at an agreed-upon price on or before the option’s expiration date. Since the underlying asset greatly influences an option’s value, traders use fundamental analysis when choosing which options to buy. 

More specifically, an ITM call option gives a trader the right to buy shares of stock, whereas an ITM put option gives a trader the right to sell shares of stock. In both cases, there is a premium, an expiration date, and a strike price, which is one of many ways options differ from stocks.

  • Premium: The premium is an option’s price, which is determined by the underlying asset’s current price, the amount of time until expiration, and the difference between the underlying asset’s current trading price and the strike price. 
  • Expiration: The expiration date is the day the contract will end.
  • Strike Price: The strike price is the price the underlying asset must reach before an option can be exercised. The strike price is also the price at which the underlying can be bought or sold once the option is exercised.

In the Money vs. Out of the Money 🚪

As long as the underlying asset fails to meet the strike price, the option is out of the money (OTM). If the option remains OTM, it will expire worthless, leaving the option trader with nothing to value except a costly life lesson. Sigh.

Traders hoping to learn from a less menacing teacher than experience should take note: If the underlying asset reaches the strike price, the option is at the money (ATM). If the underlying goes beyond or well beyond the strike price, the option is in the money (ITM) or deep in the money. When an option is deep in the money, it is profitable and worth cashing in.

OptionCall Option (Right to Buy)Put (Right to Sell)
OTM (out of the money)Underlying Price < StrikeUnderlying Price > Strike
ATM (at the money)Underlying Price = StrikeUnderlying Price = Strike
ITM (in the money)Underlying Price > StrikeUnderlying Price < Strike

So why not buy an ITM option and start the party already? As those who day trade options know, ATM and ITM options are not sure wins. Moreover, ITM option premiums are expensive, and the deeper in the money an option is, the higher its premium will be. 

The amount the option is ITM is its intrinsic value, which is the difference between the strike price and the asset’s trading price. 

In the Money Call Option ✅

A call option is in the money when the underlying asset’s current trading price is greater than the strike price. When a call option is ITM, a trader can choose to exercise the option and buy 100 shares of the underlying asset at the option’s strike price. 

long call
Long call options benefit from an increase in the underlying’s price.

The profit of exercising a call option is the difference between the strike price and the current trading price minus the premium (or the cost of the option). Therefore, traders will typically refrain from exercising an option until it is deep enough in the money to cover the premium paid. In other words, traders want their options to be as deep as a deep-fried tendie, which is how call-option-loving Keith Gill (you might know him as ‘Roaring Kitty’) made his fortune through GameStop stock.

Alternatively, a trader can always sell an option before the expiration date. If the option is ITM, it will have a greater value than an ATM or OTM option, which can translate to profit.

In the Money Put Option 

A put option is in the money when the underlying asset’s current trading price is lower than the strike price. If a put is ITM, the trader has the option to sell the underlying security at the strike price. 

As with a call option, a trader will want a put option to be deep enough in the money to profit after accounting for the paid premium. However, ITM puts might become rare bears since ETFs and dividends continue to raise stock prices. This is not to say the matador won’t make use of a muleta in the final third of a bullfight. 

long put
Long put options benefit from a drop in the price of the underlying asset.

Basically, an ITM put option allows a trader to sell 100 shares of the underlying asset at a price that is greater than the asset’s current trading price. If a trader thinks their 100 shares of a stock will fall in price, they might buy a put to protect their profits. A trader who doesn’t own the underlying asset can still buy a put option, which is similar to shorting the stock. 

In the Money Trade Example ➗

Now that we understand the basics, let’s imagine a trader who, after learning the S&P 500 could open at a record high, wants to invest in SPY, the S&P exchange-traded fund (ETF). Instead of buying shares of SPY, which is trading at $417.30, the trader buys an ITM call option with a strike price of $400. 

On the option chain, the premium is listed as 18.21, but since the option represents 100 shares, we multiply the listed price by 100. The total premium, then, is $1,821.65. The number of shares the option represents, coupled with the option being ITM and having intrinsic value, accounts for the relatively expensive premium. 

Since the intrinsic value is the difference between the strike price and the current trading price, the intrinsic value of the SPY call is $17.30 or $1,730 (the difference multiplied by 100). When figuring in other factors, such as the amount of time until expiration, the option’s total value is $1,821.65.  

The trader chooses not to exercise the option, even though it is ITM, because they would lose money when accounting for the paid premium.

Spread (difference between strike and trading price) x 100= Intrinsic Value – Premium = Total Return

$17.30 x 100= $1,730 – $1,821.60 = -$91.60

However, the trader is not super worried because SPY’s trading price only needs a $0.9160 bump to break even.

$18.216 x 100= $1,821.60 – $1,821.60 = 0

Since the trader is sure their technical analysis is accurate, they don’t settle for breaking even. Besides, how many times has anyone attributed breaking even to their success? 

Although it would be interesting to dissect the motivations of a Bartleby-like character who prefers to break even than win, our fictional trader is bullish and hopes SPY has an 11-point jump before the option expires. This would give the trader just over a thousand dollars profit.

$28.30 x 100 = $2,830 – $1,821.60 = $1,008.40

When to Sell ITM Options ⏳

If you are new to options trading, note the various reasons you might want to sell an option rather than exercise it. For example, if a trader foresees a trend reversal, they will likely decide to sell to close their position while they can still get a return. 

Investors who cannot afford the underlying asset or who are only trading derivatives will also typically choose to sell their options before expiration. In these situations, traders can still profit but are spared the hefty cost of purchasing 100 shares of the underlying asset. 

What Happens if Your Options Expire ITM? 🔎

If a call option expires ITM, it will be exercised automatically if the trader’s account has enough money to buy the underlying shares. Whether or not Reed Hastings of Netflix let his options expire, Hastings gained $612 million from exercised options in 2020 because they were deep ITM when he cashed them in. 

If the trader does not have the funds to cover the cost of shares, the consequences are dependent on the trader’s broker. As a general rule, however, traders who are not interested in or can’t afford the shares, typically sell their call option before expiration. 

Besides, with the exception of the fictional person who strives to always only break even, no one wants to wait for the expiration date to see a return on their investment. This is especially true if a trader doesn’t have the funds to cover the exercised call. 

When a covered put expires ITM, the option will be exercised automatically and the trader’s shares will be sold at the strike price. With this strategy, the trader is attempting to limit their losses. If the trader purchased a put but does not own 100 shares of the underlying asset, the trader will then be short the stock if the option expires ITM. 

If a trader would rather not be in a short position—or if their broker doesn’t allow it—the trader should be sure to sell their put for a profit before it expires. 

Conclusion 🏁

If you’ve made it this far, you deserve to be ITM and have the right, but not the obligation, to party. After all, knowing when to buy, sell, and exercise call and put options is not everyday table talk, but it can help you bring home the bread (and the tendies).  

Trading options as part of your investment strategy—especially with the leading brokers for options trading—can also help you stay ahead of the interest rates that inflation might cause to rise from the grave. And seriously, we don’t want to mistake the Federal Reserve’s next press briefing for the “Thriller” video. But then again, that would be more entertaining…🕴

In the Money: FAQs

  • Why Would You Buy ITM Options?

    There are many reasons to buy ITM options. While ITM options have a low capital investment compared to purchasing 100 shares of the underlying asset, ITM options can also be limited risk investments or used to protect profits. 

  • What Happens to ITM Options on Expiry?

    ITM options are automatically exercised at expiry. For an ITM call option, 100 shares of the underlying asset will be purchased at the strike price. For an ITM put option, 100 shares of the underlying asset will be sold at the strike price. 

  • Are ALL ITM Options Exercised?

    ITM options are not always exercised. Traders will often buy an option to open a position and subsequently sell the option to close a position for a profit or to prevent losses. 

  • What Happens if You Don't Have Enough Money to Exercise an Option?

    If a trader doesn’t have enough money to exercise an option, their best bet is to sell the option and take what profits they can. However, some brokers will allow certain account holders to exercise a call option without having to buy the shares.

Get Started Trading Options

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TS Select: $2,000

TS GO: $0

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Account minimum

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General
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Powerful tools for professionals

Huge discounts for high-volume trading

Best for

Active options and penny stock trading

Active traders

Promotion
Rating
Fees

Commissions

$0

$0

Vary

Minimum initial deposit

$0

TS Select: $2,000

TS GO: $0

$0

Account minimum

$0

$0

$0

General

Highlight

Pioneer of commission-free stock trading

Powerful tools for professionals

Huge discounts for high-volume trading

Best for

DIY stock trading

Active options and penny stock trading

Active traders

Promotion

Free stock

All reviews, research, news and assessments of any kind on The Tokenist are compiled using a strict editorial review process by our editorial team. Neither our writers nor our editors receive direct compensation of any kind to publish information on tokenist.com. Our company, Tokenist Media LLC, is community supported and may receive a small commission when you purchase products or services through links on our website. Click here for a full list of our partners and an in-depth explanation on how we get paid.

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