INVESTMENTS EXPLAINED: What you need to know about stock options, which give an investor the right to buy or sell a stock at a set price on a set date
In this series, we break the jargon and explain a popular investment term or topic. This is about stock options.
What are you?
A stock option gives an investor the right—but not the obligation—to buy or sell a stock at a specified (or “strike”) price by a specified date. There are two types of options.
A “call” is a bet that the stock will go up, and a “put” is a bet that the stock will go down.
The price for the option paid by the buyer to the broker who “writes” the options is called the “premium”.
Speculate to accumulate: Adventurous investors like options because they can risk a lot with a small bet
Investors with a penchant for speculation like options because they can risk a lot with a small investment.
An option is a “derivative,” so called because its value is derived from that of the underlying asset – the stock.
Are options risky?
Definitive. Billions of options trades are traded every day and it is possible to buy stop-loss protection to limit losses.
But as many retail investors have found to their chagrin, while options are exciting, they’re also an easy way to lose money.
It’s said that when market pros see retail investors buying call options, the pros see it as an opportune moment to make a bet to the contrary.
Do executive stock options work the same way?
Stock options are a way to reward employees or key executives – and most importantly, to maintain their long-term loyalty.
Recipients may purchase shares of the company at a future date at a pre-approved exercise price. You may also be able to avoid paying income tax or social security on the value of the Shares.
There are different types of programs, all with different tax and other rules: Save As You Earn (SAYE), Company Share Option Plan (CSOP), Share Incentive Plan (SIP), Enterprise Management Incentives (EMI), and Employee Ownership Trust ( EOT). ).
Do these systems have disadvantages?
Yes. The company may be trying its best to gain the goodwill of its workforce.
But unfortunately, it cannot guarantee that the stock price will rise, especially during a difficult time for the economy. When the stock price performs poorly, employee or executive stock options may be “underwater” — the exercise price is higher than the current market value of the stock.
Why are we currently reading about stock options?
The woes over underwater stock options may be widespread, but it seems to run deepest among US tech companies.
The Silicon Valley giants saw stock options as a convenient — and inexpensive — way to attract and retain talent in a competitive job market.
However, shares in some of these companies have fallen sharply, meaning employees, who have been promised wealth beyond their imagination, are deeply disappointed.
How are these tech companies responding?
The boss of the US home fitness equipment manufacturer Peloton is trying to turn the company upside down, whose exercise bikes are in much less demand than during the pandemic.
Options granted to employees had an exercise price of $27.62 (£22.95) and were therefore underwater. They are now priced at $9.13 (£7.58) to get employees collaborating with company changes.