Loading the player...

What is 'Deep Out Of The Money'

An option is considered deep out of the money if its strike price is significantly above (for a call) or significantly below (for a put) the current price of the underlying asset. Typically, this means the strike of the option must be more than one strike price in the option chain away from the price of the underlying asset.

Out of the money options have little intrinsic value and trade on their time value. The deeper out of the money the option, the more exaggerated this becomes. Conversely, in the money options have both intrinsic value and time value.

BREAKING DOWN 'Deep Out Of The Money'

In order for a call option to have value at maturity or expiration, the price of the underlying asset must be above the option's strike price. For a put options, the price of the underlying must be below the option's strike price. If neither is true than the option will expire worthless. Therefore, the deeper out of the money the option is, the more the price of the underlying must move before expiration and the less likely it will occur.

For example, if the current price of the underlying stock is $60, a put option with a strike price of $65 would be considered deep out of the money. A put option with a strike of $55 would be even deeper out of the money.

Trading Strategy

While a deep of out the money option seems worthless, the derivative still holds some value. All options, both in and out of the money, contain time value. Time value measures the benefit of having an option with time remaining until maturity with at least a chance the price of the underlying will move in the desired direction. Therefore, while a deep out of the money call or put has no intrinsic value, some investors are willing to pay a small amount for the remaining time value. However, this time value decreases as the option moves closer to its expiry date.

The obvious feature of deep out of the money options is their very low cost compared to comparable options with strike prices closer to the price of the underlying. The risk that the options will expire worthless is great but so is the potential size of the reward, should the option move into the money before expiration. If the latter becomes true, the percentage payoff can be huge. The small amount paid for the option could multiply many times over. 100% gains are actually on the low side of possibilities.

It is tempting to buy deep out of the money options on many assets at one time because only a few need to be successful to create an overall portfolio gain. However, commissions compound the costs and some experts consider these types of options to be gambling with a high payoff possible but with very low odds of success.

RELATED TERMS
  1. Deep In The Money

    A deep in the money option has a strike price significantly below ...
  2. In The Money (ITM)

    In the money means an option has intrinsic value, which is determined ...
  3. Out Of The Money (OTM)

    An out of the money option has no intrinsic value, but only possesses ...
  4. Near The Money

    An options contract where the strike price is close to the current ...
  5. Currency Option

    A contract that grants the holder the right, but not the obligation, ...
  6. Time Value

    The portion of an option's premium that is attributable to the ...
Related Articles
  1. Trading

    What Is Option Moneyness?

    In the money, at the money and out of the money define the current profitability of options positions.
  2. Trading

    Option trading strategies: A guide for beginners

    Options offer alternative strategies for investors to profit from trading underlying securities. Learn about the four basic option strategies for beginners.
  3. Investing

    Why Options Trading Is Not for the Faint of Heart

    Trading options is not easy and should only be done under the guidance of a professional.
  4. Trading

    Understanding Option Pricing

    This article will explore what factors you need to consider in the pricing of options when trying to take advantage of a stock price's movement.
  5. Trading

    Google Stock Too Expensive for You? Try Options

    Learn how to invest in Google (now Alphabet, Inc.) and other high-value stocks with less capital by using options.
  6. Trading

    Options Strategies for Your Portfolio to Make Money Regularly

    Discover the option-writing strategies that can deliver consistent income, including the use of put options instead of limit orders, and maximizing premiums.
RELATED FAQS
  1. What is the difference between in the money and out of the money?

    Learn how the difference between in the money and out of the money options is determined by the relationship between strike ... Read Answer >>
  2. When is a put option considered to be "in the money"?

    Learn about put options, what they are, how these financial derivatives operate and when put options are considered to be ... Read Answer >>
  3. What happens when a security reaches its strike price?

    Learn more about the moneyness of stock options and what happens when the underlying security's price reaches the option ... Read Answer >>
  4. How do I change my strike price once the trade has been placed already?

    Learn how the strike prices for call and put options work, and understand how different types of options can be exercised ... Read Answer >>
  5. What Happens to Call Options If a Co. is Bought?

    Typically, the announcement of a buyout offer by another company is a good thing for shareholders. Read Answer >>
Hot Definitions
  1. Discount Rate

    Discount rate is the interest rate charged to commercial banks and other depository institutions for loans received from ...
  2. Economies of Scale

    Economies of scale refer to reduced costs per unit that arise from increased total output of a product. For example, a larger ...
  3. Quick Ratio

    The quick ratio measures a company’s ability to meet its short-term obligations with its most liquid assets.
  4. Leverage

    Leverage results from using borrowed capital as a source of funding when investing to expand the firm's asset base and generate ...
  5. Financial Risk

    Financial risk is the possibility that shareholders will lose money when investing in a company if its cash flow fails to ...
  6. Enterprise Value (EV)

    Enterprise Value (EV) is a measure of a company's total value, often used as a more comprehensive alternative to equity market ...
Trading Center