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Exercise value is the value of an option which is cashed out before the expiry date established in the contract. There may be cases in which the exercise value is to the advantage of the person who holds the option in which case, there may be an incentive to exercise the option before it expires. In other instances, the value is low or the investor would take a loss, in which case the investor would wisely hold on to the option so that more value could be obtained.
In a call option, the contract allows someone to buy a set number of units at a set price, known as the strike price. With call options, the exercise value is calculated by comparing the current price with the strike price. If the current price is lower than the strike price, the option is said to be “in the money,” a reference to the fact that buying would be advantageous. If the current price is higher, the exercise value would represent a loss for the buyer.
Put options, on the other hand, give people a contract which allows them to sell a set number of units at a given strike price on the expiry date. In this case, people also compare the strike price and the current price to determine the exercise value. If the strike price is lower, the option is in the money, because the current price would generate more profit for the holder of the option. When the strike price is higher, there is no incentive to sell at the current price because the option holder will make more money by hanging on to the contract until it expires.
The language of options contracts can become quite complex. There are a number of variables which can be manipulated while developing a contract and reaching an agreement. When purchasing options contracts, it is important to be well aware of all of the terms of the contract to avoid ending up with an unsound investment. It is possible to be trapped into a contract which is not advantageous, which can lead to financial losses, and when money is tied up in one contract, it cannot be invested in something more favorable.
People who trade options try to diversify their investments, just as other investors do, to distribute the risk. Being aware of the exercise value of an options contract can be important when making buying and selling decisions.