What is an Option?

In property and real estate you can have options over property. In the financial trading world there are options over stocks and stock market indexes.

Knowing how to use options over property and stock can make you a lot of money if you know what you are doing.

However before this happens you need to know what an option actually is. So here goes:

An Option provides a person with the RIGHT but not the OBLIGATION to do something.

If the person wants to do it then great. If not then he doesn’t have to.

For example: you rent a house that you want to buy. You ask the landlord and he says you can buy the house for $300,000.

The only issue is you don’t earn enough to take out a $300,000 mortgage. However sometime in the next 6 months time you know you will be getting promoted at work and that will give you a nice pay rise to cover the $300,000 mortgage.

You ask the Landlord to grant you an option to purchase the house at any time in the next 6 months for $300,000 and the Landlord agrees provided you pay him $2000 in return for granting you the option. You accept and pay the $2000.

There has now been created a legally binding contract between you and the Landlord. You have now purchased, for $2000, the RIGHT but not the OBLIGATION to buy the house at any time in the next six months for $300,000.

The Landlord cannot sell the house to anybody else in this six month period. He can only sell it to you for $300,000.

If you want to buy the house then you just have to tell the Landlord any time you want to within the next six months and give him $300,000. Once you tell the Landlord you want to purchase the house you have exercised your option.

If that promotion you were hoping for never actually happens then you don’t have to buy the house. After six months your right to buy the house will end (or expire) and the Landlord is free to sell the house to anybody. All you will lose is your $2000 which was the fee you paid for the grant of the option.

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