Premium
The price you pay or receive for an options contract.
The premium is the price of an options contract — what the buyer pays and what the seller receives. It is quoted on a per-share basis, so the total cost of one contract is the premium multiplied by 100 (since each contract covers 100 shares).
Why It Matters
The premium is your cost basis on a long trade and your income on a short trade. It directly determines your maximum risk as a buyer and your maximum reward as a seller. Understanding what drives premium higher or lower lets you identify when options are cheap or expensive relative to the expected move.
Premium also represents the market's consensus on risk. A high premium means the market expects significant price movement or uncertainty. A low premium means the market expects calm. Learning to read premiums is how you start thinking like the market.
How It Works
An option's premium is made up of two components:
- Intrinsic value: The real, tangible value if exercised right now. A $100 call when the stock is at $105 has $5 of intrinsic value.
- Extrinsic value (time value): Everything above intrinsic value. This is the portion that reflects time remaining, implied volatility, and probability. It decays to zero at expiration.
Several factors influence the size of the premium:
- Stock price relative to strike — Deeper ITM options have higher premiums due to intrinsic value
- Time to expiration — More time means higher premium (more opportunity for movement)
- Implied volatility — Higher IV means the market expects bigger moves, which increases premiums
- Interest rates and dividends — Minor effects, but they do factor in through pricing models
The premium changes constantly during market hours as these factors shift. Delta, theta, vega, and gamma all measure the rate at which the premium changes relative to different inputs.
Quick Example
Stock DEF trades at $75. You buy a $75 call expiring in 30 days for $3.00 per share. Your total cost: $300 (100 shares x $3.00). Since the strike equals the stock price, there is zero intrinsic value — the entire $3.00 is extrinsic value. Your breakeven at expiration is $78.00 ($75 strike + $3 premium). The stock must rise more than 4% for you to profit.
If you instead sold that same $75 call, you collect $300 upfront. You keep the full premium if the stock stays at or below $75 by expiration.