An investor paid a premium of seven dollars for a put with a fifty-dollar strike. At expiration the put is in the money by four dollars. How does the investor's position stand per share?

Four dollars ahead, the in-the-money amount being the investor's profit

Three dollars behind, although the put is in the money

Four dollars behind, the in-the-money amount being owed back to the writer

Eleven dollars ahead, the premium adding to the put's exercise value

An investor buys a call while it is out of the money. How can the call's pricing state change over the following trading days?

It can change once a day, at the close, when the clearing corporation revalues every open contract it holds

It cannot change, since the pricing state is fixed for the contract's life when it is first bought

It can move into and back out of the money as the stock price moves through each day

It changes when the exchange adjusts the strike price for a stock split or another corporate action, not otherwise

A call has a strike price of forty dollars and the underlying stock trades at exactly forty dollars. What makes up the call's premium?

All of it is time value, as exercise at the strike would gain nothing

Mostly intrinsic value with a little time value, since exercise at the strike costs nothing

Equal parts of intrinsic value and of time value at that price

Time value and intrinsic value, in proportion to the time left until expiration

Why does a rational holder not exercise an option that is out of the money?

Exercise would produce a gain, but it would forfeit the option's remaining time value

Exercise would produce a worse price than trading the shares directly in the market

Exercise of an out-of-the-money option is barred by the clearing corporation's rules

Exercise would oblige the holder to deposit margin equal to the full strike price first

A stock trades at sixty-two dollars and an investor holds one call contract with a fifty-eight-dollar strike. What is the intrinsic value of the contract?

Five thousand eight hundred dollars: the strike value of the hundred shares

Four dollars: an option contract's intrinsic value is quoted for one share

Four hundred dollars: four a share across the one hundred shares covered

Six thousand two hundred dollars: the market value of the hundred shares

A stock trades at forty-four dollars and an investor holds a put on it with a fifty-dollar strike. What does exercising the put let the investor do?

Buy shares at fifty dollars each, locking in a price ahead of an expected recovery

Sell shares at forty-four dollars each and recover the premium paid from the writer

Buy shares from the writer at forty-four dollars each, the current market price

Sell shares at fifty dollars each, more than the market pays for them

A call has a strike price of seventy dollars and the underlying stock trades at sixty-five dollars. What is the call's intrinsic value?

Zero, since a negative result counts as nothing

Minus five dollars, the stock being below the strike

Five dollars, the gap between stock and strike

Sixty-five dollars, the stock's market price

A put with a fifty-dollar strike trades at a premium of four dollars and fifty cents while the underlying stock is at forty-seven dollars. How does the premium divide?

One dollar fifty of intrinsic value and three dollars of time value

Three dollars of intrinsic value and one dollar fifty of time value

Four dollars fifty of time value and no intrinsic value at that price

Four dollars fifty of intrinsic value and no time value at that price

Which factors drive the time value, or extrinsic value, in an option's premium?

The stock's implied volatility, the premium the holder originally paid, and the exchange of listing

Time left to expiration, the stock's dividend record date, and the margin the writer has deposited

Time left to expiration, the stock's implied volatility, and where its price stands against the strike

The number of contracts open in the series, the writer's margin, and the time left to expiration

An investor buys a seventy-dollar call for a premium of eight dollars while the stock trades at seventy-six. At expiration the stock trades at eighty. What is the call worth per share?

Twelve dollars, intrinsic value plus the two of time value it carried

Two dollars, the amount by which it now exceeds the premium paid

Eighteen dollars, intrinsic value plus the eight-dollar premium

Ten dollars, its intrinsic value, with no time value left

A holder owns an equity put with a forty-dollar strike. The stock closes at thirty-nine dollars ninety-eight on the expiration day and the holder gives the broker-dealer no instructions. What happens to the put?

It is exercised automatically, being in the money by two cents

It lapses unexercised, since its holder gave no exercise instruction

It is exercised only if the broker-dealer judges it worth the costs

It lapses, as automatic exercise applies to calls and not to puts

Two calls on the same stock have the same expiration date; one is at the money and the other out of the money. Why does the at-the-money call typically carry more time value?

The out-of-the-money call's time value decays sooner, because its higher strike shortens the period it has left to run before expiry

A favourable move is roughly as likely as not, while the other call needs a larger move to gain value

Sellers charge extra for the at-the-money call because it is the one exercised automatically by the clearing corporation at expiration

Time value rises with the strike price, and the at-the-money call carries the higher of the two strike prices on offer

An investor is choosing between an in-the-money call and an out-of-the-money call on the same stock with the same expiration. What does the in-the-money call offer for its higher cost?

Time value that is protected from decay until expiration, unlike the other call's

A guaranteed profit at expiration, since intrinsic value already held cannot be lost

Immediate intrinsic value, and a lower percentage risk of losing the whole premium

A higher chance of a large percentage gain, with the premium at less risk of decay

An options writer is choosing between selling an in-the-money call and an out-of-the-money call on the same stock with the same expiration. What does writing the in-the-money call involve?

More premium income, with less risk since the writer keeps the intrinsic value when the call expires

More premium income, with less risk since the premium received already covers any loss on exercise

More premium income, with no assignment possible until the call's intrinsic value has decayed away

More premium income, with more immediate obligation risk since it is already exercisable at a profit

In the Money — Intrinsic Value, Calls, and Puts

In the Money

In the money is the term used to describe an options contract that has intrinsic value — a call option whose underlying stock price is currently above the strike price, or a put option whose underlying stock price is currently below the strike price. An option that is in the money can be exercised immediately for a profit before accounting for the premium paid, and the degree to which it is in the money equals its intrinsic value. Understanding in the money and its relationship to at the money, out of the money, intrinsic value, and time value is among the most heavily tested concepts on the SIE and Series 7 examinations.

The Three Pricing States — ITM, ATM, OTM

Every option at every moment exists in one of three pricing states relative to the current market price of the underlying security and the option's strike price. These states — in the money, at the money, and out of the money — are not fixed characteristics of the option. They change continuously as the underlying security's price moves throughout each trading day.

In the money means the option has intrinsic value — exercising it immediately produces an economic benefit. At the money means the underlying security's current market price equals the strike price exactly — intrinsic value is zero, and the entire option premium consists of time value. Out of the money means the option has no intrinsic value — exercising it immediately would produce a loss relative to transacting directly in the market — and the entire premium consists of time value. Out of the money options are not exercised because doing so would be economically irrational.

In the Money Calls

A call option gives the holder the right to buy one hundred shares of the underlying security at the strike price. A call option is in the money when the current market price of the underlying security is above the strike price — the holder can exercise the right to buy at the strike price, which is below the current market price, and immediately own shares worth more than was paid for them.

The mnemonic used universally in Series 7 examination preparation is call up — calls go in the money when the market price goes up above the strike price.

If a stock is trading at sixty-two dollars and an investor holds a call option with a fifty-eight dollar strike price, the call is in the money by four dollars. The intrinsic value is four dollars per share, or four hundred dollars per contract covering one hundred shares. If the same stock were trading at fifty-four dollars, the call would be out of the money by four dollars — exercising it would mean paying fifty-eight dollars for stock trading at fifty-four dollars, which makes no sense.

In the Money Puts

A put option gives the holder the right to sell one hundred shares of the underlying security at the strike price. A put option is in the money when the current market price of the underlying security is below the strike price — the holder can exercise the right to sell at the strike price, which is above the current market price, and receive more than the shares are worth in the market.

The mnemonic is put down — puts go in the money when the market price goes down below the strike price.

If a stock is trading at forty-four dollars and an investor holds a put option with a fifty dollar strike price, the put is in the money by six dollars. The intrinsic value is six dollars per share, or six hundred dollars per contract. If the same stock were trading at fifty-three dollars, the put would be out of the money by three dollars — exercising it would mean selling shares at fifty dollars when the market pays fifty-three dollars, which no rational holder would do.

Intrinsic Value — The Precise Calculation

Intrinsic value is the dollar amount by which an option is in the money. It is always zero or positive — a negative intrinsic value is simply zero, because no rational investor exercises an out of the money option.

For calls: intrinsic value equals the current market price of the underlying security minus the strike price, but not less than zero.

For puts: intrinsic value equals the strike price minus the current market price of the underlying security, but not less than zero.

Worked examples confirm this. A seventy call when the stock trades at seventy-six has intrinsic value of six dollars — seventy-six minus seventy. A seventy call when the stock trades at sixty-five has intrinsic value of zero — the call is out of the money. A seventy put when the stock trades at sixty-three has intrinsic value of seven dollars — seventy minus sixty-three. A seventy put when the stock trades at seventy-eight has intrinsic value of zero — the put is out of the money.

Option Premium — Intrinsic Value Plus Time Value

The total option premium — the price paid to acquire the option — equals intrinsic value plus time value. This relationship is fundamental and is tested constantly on the Series 7 examination.

Time value, also called extrinsic value, represents the additional amount investors pay above the intrinsic value for the possibility that the option will move further in the money before expiration. It is driven by time remaining to expiration, implied volatility of the underlying security, and the relationship between the current price and the strike price. All else equal, time value declines as expiration approaches, reaching zero at expiration itself — a process called time decay or theta.

An in the money call with a strike of seventy, underlying stock trading at seventy-six, and a total premium of eight dollars has intrinsic value of six dollars and time value of two dollars. An out of the money call with a strike of eighty, same stock trading at seventy-six, and a premium of three dollars has intrinsic value of zero and time value of three dollars — the entire premium is time value.

At expiration, time value is zero for every option. At expiration, an in the money option is worth exactly its intrinsic value. At expiration, an out of the money option is worth zero and expires worthless.

The OCC Exercise-by-Exception Rule

The Options Clearing Corporation — the central counterparty and guarantor for all standardised exchange-listed options in the United States — applies the exercise-by-exception procedure at expiration for all equity options. Under this procedure, any option that is in the money by one cent or more per share at expiration is automatically exercised on the option holder's behalf unless the holder provides specific contrary instructions to their broker-dealer before the applicable cutoff time.

FINRA Rule 2360 establishes that the cutoff for customer instructions regarding exercise at expiration is five-thirty PM Eastern Time on the expiration day. The OCC itself processes expiration settlement based on closing prices. The exercise-by-exception rule ensures that in the money options are not inadvertently abandoned by investors who fail to submit exercise instructions — the OCC exercises them automatically. Option holders who do not wish to exercise an in the money option at expiration must affirmatively instruct their broker not to exercise before the cutoff.

ITM, ATM, OTM and Option Premium Levels

Option premiums reflect the pricing state of the option. In the money options carry higher premiums than at the money or out of the money options with the same expiration date, all else equal, because they already contain intrinsic value in addition to any time value. An in the money option trading at eight dollars when the intrinsic value is six dollars carries two dollars of time value. An at the money option with zero intrinsic value might carry three dollars of time value — reflecting the symmetric probability that the stock moves in the favourable direction before expiration. An out of the money option might carry one dollar of time value — a lower probability that the market moves enough to bring the option into the money before expiration.

For buyers, in the money options cost more but provide immediate intrinsic value and lower percentage risk of total loss. For sellers, selling in the money options generates more premium income but creates more immediate obligation risk because the option is already exercisable for a profit.

Examination Drill — Four Scenarios

The Series 7 examination tests in the money identification through precise scenario analysis. Candidates must work quickly and accurately through calls and puts with different strike prices and market prices.

ABC trades at sixty-two. Which of the following are in the money? An ABC sixty call — in the money by two, call is above strike. An ABC sixty-five call — out of the money, market below strike. An ABC sixty put — at the money, zero intrinsic value. An ABC sixty-five put — in the money by three, put is below strike.

DEF trades at forty-eight. Which are in the money? A DEF forty-five call — in the money by three. A DEF fifty call — out of the money. A DEF forty-five put — out of the money. A DEF fifty put — in the money by two.

Working through scenarios like these rapidly and accurately is the core examination skill. The mnemonic — call up, put down — applied consistently produces correct answers without requiring rederivation of the underlying logic each time.

Examination Relevance and Key Takeaways

In the money is tested on the SIE, Series 7, and Series 65 examinations in the context of options terminology, intrinsic value calculations, option premium decomposition, and the OCC exercise-by-exception rule.

The key points to retain are these.

A call option is in the money when the underlying stock price is above the strike price — call up. A put option is in the money when the underlying stock price is below the strike price — put down. At the money means the stock price equals the strike price exactly. Out of the money means the option has no intrinsic value and would be irrational to exercise. Intrinsic value equals the in the money amount — for calls, market price minus strike price; for puts, strike price minus market price — never negative.

Option premium equals intrinsic value plus time value — at expiration time value is zero and in the money options are worth their intrinsic value while out of the money options expire worthless. The OCC exercise-by-exception rule automatically exercises any equity option in the money by one cent or more at expiration unless the holder provides contrary instructions to their broker-dealer by five-thirty PM Eastern Time on the expiration day under FINRA Rule 2360.