Options on futures.

The Series 3 covers options on futures. Get the vocabulary straight and most questions fall into place. An option gives the buyer a right, not an obligation; the writer (seller) takes on the obligation in exchange for the premium.

Calls and puts

• Call — the right to buy (go long) the underlying futures at the strike price. Call buyers want prices to rise.
• Put — the right to sell (go short) the underlying futures at the strike price. Put buyers want prices to fall.

Premium, intrinsic value & time value

The buyer pays a premium — the option's price. Premium = intrinsic value (how far in-the-money it is) plus time value (everything else, which decays toward expiration). An option is in-the-money when exercising it would have value, at-the-money at the strike, and out-of-the-money otherwise.

Risk profiles

An option buyer's risk is limited to the premium paid, while the potential gain can be large. An option writer collects the premium but takes on much larger risk if the market moves against them. This asymmetry is a common exam theme.

Why hedgers use options

Options let a hedger protect against an adverse move while keeping the upside if the market goes their way — like insurance with a deductible (the premium). That flexibility, versus the locked-in nature of a straight futures hedge, is worth understanding for the exam.

Practice option questions in the free set, or review everything in the exam guide.