What are options?
A basic understanding of options is critical to interact with our code seamlessly.
Last updated
A basic understanding of options is critical to interact with our code seamlessly.
Last updated
Option contracts represent a right but not an obligation to the option buyer. On the other hand, the option sellers commit to allowing the buyers to exercise the options if they want to.
One could think of it as a type of financial instrument with specific conditions, such as "if this then that." It represents an action if a particular situation is met.
Options are a well-known kind of derivative in traditional finance. They represent a commitment (of the seller) and an opportunity (of the buyer) to buy or sell - depending on the contract they hold - the underlying asset upon expiration. The seller issues the contract, and, unlike futures, it represents a right, but not an obligation, of the buyer to exercise the contract terms if it wants to.
The concept of a contract that allows the buyer to hold a right but not an obligation is the most basic and inherent feature of every options contract. Besides that, there are different types of options, types of exercising rules, and types of settlement that can be tweaked to get your best option.
There are two types of options: calls and puts.
A call option allows the holder to buy the underlying asset at the strike price.
A put option allows the holder to sell the underlying asset at the strike price.
Another vital characteristic of options regards the rules to exercise the contract. Options can be either European or American* options. An American option is a "continuous time instrument" because it allows the buyer to exercise it at any moment until expiry. European options are a "point in time instrument" since they will enable the buyer to exercise only when the expiration is reached. You can find both American and European options in our protocol.
*Although the code is ready to receive either American or European options, it is not recommended to implement American options using the current pricing model applied on the Options AMM. Find more about this in the Pricing section.
An option can be exercised in two ways: cash or physical settlement. Cash settlement assumes that only the difference between the counterparts should be offset, which means that the contract's margin to be valid could be smaller. On the other hand, physical settlement assumes that all the collateral or margin held in custody will be exercised.