Moneyness is a fundamental concept in options trading that describes the relationship between an option's strike price and the current market price of the underlying asset. This guide explores ITM, ATM, and OTM options, their valuation, and practical trading implications.
Key Takeaways
- Moneyness defines an option's intrinsic value based on its strike price vs. the underlying asset's market price.
- ITM options have immediate profit potential (call strikes below market price; put strikes above).
- ATM options have strike prices equal to the current market price (zero intrinsic value).
- OTM options derive value solely from time premium (call strikes above market; put strikes below).
Core Components of Option Pricing
An option's premium comprises:
Intrinsic Value:
- For calls: Market price - Strike price
- For puts: Strike price - Market price
- Time Value:
Premium - Intrinsic Value
👉 Master options trading with these advanced strategies
In-the-Money (ITM) Options Explained
Example: ABC Corp stock trades at $420.
- A $400 call has $20 intrinsic value ($420-$400).
- If premium is $28, time value = $8 ($28-$20).
Strategic Uses:
- Deep-ITM calls mimic stock ownership with lower capital outlay.
- Selling ITM covered calls locks in immediate profits.
Out-of-the-Money (OTM) Options Demystified
Example: ABC at $420; $400 put has:
- $0 intrinsic value (strike < market).
- Entire $5 premium = time value.
Characteristics:
- Cheaper than ITM/ATM options.
- Purely speculative (no intrinsic value).
At-the-Money (ATM) Options Analysis
When strike = market price:
- Both calls/puts have zero intrinsic value.
- Entire premium reflects time value and volatility expectations.
Time Value Dynamics
Factors influencing time premium:
- Time to expiration
- Implied volatility
- Interest rates
- Dividends (for stocks)
👉 Optimize your portfolio with smart options plays
FAQ: Common Moneyness Questions
Q1: How does moneyness affect option exercise decisions?
A1: Traders rarely exercise ITM options early due to remaining time value. Closing the position typically yields higher profits.
Q2: Why buy OTM options if they have no intrinsic value?
A2: OTM options offer high leverage - small price movements can generate large percentage returns.
Q3: When does time value decay accelerate?
A3: Theta decay increases exponentially in the final 30-45 days before expiration.
Q4: How do dividends impact ITM calls?
A4: Expected dividends reduce call premiums (higher chance of early exercise).
Strategic Considerations
ITM Options:
- Higher delta (~1.0 for deep ITM) means price moves nearly 1:1 with stock.
- Lower percentage returns but more consistent.
OTM Options:
- Higher gamma - small stock moves create disproportionate option price changes.
- Ideal for volatility plays.
| Option Type | Intrinsic Value | Time Value Sensitivity |
|---|---|---|
| ITM Calls | Positive | Lower |
| ATM Calls | Zero | Highest |
| OTM Calls | Zero | Moderate |
Conclusion
Mastering moneyness enables traders to:
- Select appropriate strategies based on market outlook
- Balance risk/reward profiles effectively
- Capitalize on time decay and volatility shifts
👉 Start implementing these concepts with a reliable trading platform