What is an at the money stock option?
An at the money stock option (ATM) is an option that has a strike price around the same price as the stock. It is neither higher nor lower. For example stock XYZ is trading at $45. We buy the the $45 call option which gives us the right to buy the stock at $45 sometime in the future. Because the strike price is the same as the stock price this is an ATM option. This option is a good compromise between the high risk high reward of an OTM option and the low risk low return of an ITM option. Say we are expecting Stock XYZ to go up. It is currently at $45. Let us examine 3 trades to see how these options differ. 1st ITM, you buy the $40 strike price for $6. 2nd ATM, you buy the $45 strike price for $2. 3rd OTM you buy the $50 strike price for $.50. If the stock goes up to $48 your options are worth. 1st ITM, at least $7 ($47-$40) or 16% return 2nd ATM, at least $3 ($47-$45) or 50% return 3rd OTM, $0 If the stock goes up to $53. 1st ITM, at least $13 or 116% 2nd ATM, at least $8 or 300% 3rd OTM, at least $3 or 550% If the stock goes down to $42. 1st ITM, at least $2 2nd ATM, $0 3rd OTM, $0 Many investor will use at the money stock option because the price of the stock does not have to move up a lot to make money like an OTM option and it will generally make more than a ITM option. However there is more risk with an ATM option then there is with an ITM option. ITM options will already have some intrinsic value, the deeper in the money you go the more intrinsic value they have and the more they follow the price of the stock. Options that are ATM typically do not have much intrinsic value with them and they may be affected by other factors like time “time value” where an option loses value as it approaches expiration. The other thing to consider with ATM stock options is if the stock goes down even a little bit then your option is OTM and therefore is all time value. All options carry risk, it just depends on how much risk you want to take and how you plan on using them.
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