We have seen that the intrinsic value of an option is determined by Strike price and Underlying value.
Now let’s see that depending on the strike price and on the underlying value, an option can be:
1. In the money (ITM)
2. At the money (ATM)
3. Out of the money (OTM)
- If the underlying value is higher than exercise price (in case of call options), or vice versa if the underlying value is lower than exercise price (in case of put options) it is said that the option is in the money and its intrinsic value is more than zero.
The term in the money indicates an option profit.
If an option has positive intrinsic value is in the money.
- It is said that an option is At the money when the underlying value is equal or very close to exercise price. In this case the intrinsic value of the option is zero or near to zero.
Of the foregoing statement it emerges that the closer you get to the in the money position, the higher the intrinsic value of the option, and therefore its price. Instead, the closer you get to the at the money position, the lower the intrinsic value, so even the option.
- We talk about Out of the money position when the difference between the exercise price and underlying value or vice versa is negative.
So, for a call when the exercise price is higher than underlying, and for a put when the exercise price is lower than underlying. In these cases, even if the difference is negative, the intrinsic value is equal to zero, we have seen that the intrinsic value can never assume a negative value, or is positive, or is equal to zero.
ATM and OTM options due to their intrinsic value low or zero have a price expressed only by temporal value. ITM options instead have a price both determined by the intrinsic value and the temporal value.