What Is Out of the Money?
Out of the money options have no intrinsic value — the stock hasn't moved past the strike yet. OTM options are cheaper but require bigger moves to profit.
Definition
An option is 'out of the money' (OTM) when it has no intrinsic value. For a call, OTM means the stock is below the strike price. For a put, OTM means the stock is above the strike. The entire premium of an OTM option is time value (extrinsic).
OTM options are cheaper than ITM options because they require the stock to make a significant move before expiration to have any value. They have lower deltas (higher probability of expiring worthless) but offer higher percentage returns if the underlying makes a big move.
Selling OTM options is a common income strategy — sellers collect the premium knowing that most OTM options expire worthless. Buying OTM options is higher risk, higher reward — often compared to buying a lottery ticket on a stock move.
Real-World Example
A stock trades at $100. A call with a $120 strike is $20 OTM. If the option costs $1 ($100), you need the stock to rise above $121 by expiration just to break even. If the stock stays at $100, you lose the full $100.
Why It Matters
Most OTM options expire worthless — studies suggest 70-80% of all options expire with no value. This is why option sellers often have an edge, and why buying cheap OTM options is harder than it looks.
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Frequently Asked Questions
Why do people buy OTM options if most expire worthless?
The appeal is leverage — a small move in the stock can create a huge percentage return on a cheap OTM option. A $0.50 option that goes to $2.00 is a 300% gain. But the probability of that happening is low, which is why most lose money buying OTM options.
What percentage of options expire worthless?
Studies by the CBOE suggest approximately 35-40% of options expire worthless, while another 35-40% are closed before expiration (many at a loss). Only about 10-15% are actually exercised. This gives sellers a statistical edge.
Is selling OTM options always profitable?
Not always — sellers collect premium but face risk if the stock makes a large move. During volatile periods (like earnings or market crashes), OTM options can quickly go in the money and generate large losses for sellers. This is why position sizing matters.
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