Definition

Listed Option

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What are the listed options?

Listed options are standardized derivative contracts that are traded on an exchange, the clearinghouse is responsible for its settlement, making the contract guaranteed. These are also known as exchange-traded options.

The standardized contracts give the right to the holder to either buy or sell a specific quantity of underlying assets on pre-determined prices at pre-determined time by using call and put listed options.

The listed options are listed on exchanges like Chicago Board Options Exchange. The listed options are overseen by regulators such as the Commodity Futures Trading Commission (CFTC) and Securities and Exchange Commission (SEC) in the United States. The guarantee is provided by the clearinghouses like the Options clearing Corporation (OCC) in the US.

Summary
  • Listed options are standardized derivative contracts that are traded on an exchange and are settled by a clearinghouse.
  • Listed options are standardized derivative contracts that are traded on an exchange and are settled by a clearinghouse.
  • In United States, the listed options are overseen by the regulators such as the Commodity Futures Trading Commission (CFTC) and Securities and Exchange Commission (SEC).

Frequently Asked Questions (FAQs)

What are the types of listed options?

There are two types of listed options contracts, namely, call options and put options. Buying a call option gives the buyer a right but not obligation to buy the underlying asset at a predetermined price before or on the expiration date but not an obligation. Similarly, buying a put option gives the right but not obligation to the holder to sell the underlying asset at a predetermined date before or on the expiration date.

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The options can also be categorized into American style and European style options. In the European style option, the holder can only exercise the option at the date of expiration. In the American style option, the holder can exercise the option before or on the date of expiration.

How do listed options work?

The listed options have a standardized quantity of the underlying asset. To illustrate, in the United States, one option is based on a specific quantity, that is, 100 shares and the future options contracts are based on one future contract. There are two types of listed options, namely, put and call options. The choice of the option is dependent upon the requirements of the trader.

Several strike prices are available for both call and put options at regular intervals of prices. The range of expiration dates are also available and it also follows a specific pattern. For example, an option contract is expiring in 30 days and other options with similar characteristics will be expiring in more than 31 days. The options contract will have an expiration date after 3 months and the pattern goes on. It can go up to 2 years and even more.

Since the listed options are standardized, they are utilized by many investors. It further adds liquidity in the market and makes a way to exit the market. With the change in the market conditions, the option prices change and are quoted on a continuous basis.

The market makers publicly post the prices at which they are willing to buy or sell an option. The market makers are on another side of the trade and make the market for the options they are responsible for. After receiving the order, the objective of the market maker is to offset the order or fill the order from their inventory on an immediate basis. The whole process is completed within seconds, therefore, both option holders and writers get the chance to close and open a position in the market in no time.

The clearinghouse provides the guarantee, that is, the traders need not worry about the worthiness of the other party. The clearinghouse is in the middle of the transactions and acts as a buyer for a seller and seller for a buyer.  

What are the characteristics of the listed options?

  • The underlying asset can be stock market index, equity security, foreign currency, government debt security, commodity, and any financial instrument. The units of the underlying asset which is covered by the contract are known as the unit of trading and contract size. The settlement of the underlying asset can be in the physical form or exchange of the options profit via cash transactions. The index options are always settled in cash, whereas the equity options may be delivered in physical form.
  • The options type represents the rights of the holder (no obligation) to either buy (call option) or sell (put option) the underlying asset at the agreed prices. The owner of the right is known as the option holder. The seller of the contract is known as the option writer.
  • The price at which the holder exercises their right is known as the exercise price or the strike price.
  • The option buyer must pay an amount to the option writer in exchange for the right give, this amount is known as the premium.
  • The date at which the contract loses its value and becomes void, that is, the holder loses their right is known as the expiration date.
  • The style of the option (either American or European) specifies the date on which the contract can be executed.

What are the benefits of the listed options?

In comparison to the OTC options, the exchange-traded options extend numerous benefits. The listed options have standardized expiration dates, strike prices and contract size which allows many traders to execute trades. Therefore, providing liquidity in the market.

With the increase in liquidity, the cost of transactions is also reduced. With the availability of a large number of sellers and buyers for a specific contract, the bid-ask spread is narrowed down.

The availability of the clearance house guarantees that both the seller and buyer of the contract will fulfil their obligations. Therefore, the risk is removed.

What are the drawbacks of the listed options?

One of the significant drawbacks of the listed options contract is that they cannot be tailored as per the requirements of the traders as they are standardized. On other hand, the OTC option contracts can be customized as per the requirements but the clearinghouse is not present in the contract. However, the listed options contract a wide range of options to the traders as the exchange provides numerous expiration dates and strike prices. 

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