What is Deep In The Money
A deep in the money option has an exercise, or strike price, significantly below (for a call option) or above (for a put option) the market price of the underlying asset. The value of such an option is nearly all intrinsic value and minimal premium.
In The Money Options
BREAKING DOWN Deep In The Money
An option is said to be "deep in the money" if it is in the money by more than $10. For options, both a call and a put option can be in the money. Therefore, if a call option is "deep in the money," it means that the strike price is at least $10 less than the underlying asset, or $10 higher for a put option. For lower-priced equities, $5 or less may be the level necessary to be deep in the money. Such deep in the money options have a very high delta level, meaning that the options will move nearly in lock-step with the underlying asset.
The most important characteristic of this type of option is its considerable intrinsic value. To calculate the value of a call option, one must subtract the strike price from the underlying asset's market price. For a put option, you would add the strike price to the underlying asset price.
As a call option moves deeper into the money, its delta will approach 100%. At this delta, every point change of underlying asset price results in an equal, simultaneous option price change in the same direction.
For this reason, deep-in-the-money options are an excellent strategy for long-term investors, especially compared to at the money and out of the money (OTM) options. Therefore, investing in the option is similar to investing in the underlying asset, except the option holder will have the benefits of lower capital outlay, limited risk, leverage, and greater profit potential.
Since options cost less to purchase than the underlying asset, deep in the money options allow the investor to profit the same or nearly the same from a stock's movement as the holders (or short sellers) of the actual stock. While the deep money option carries a lower capital outlay and risk; they are not without risk.
Because options have a limited lifespan, unlike stocks, the investor still needs the underlying stock to move in the desired direction (higher for calls and lower for puts) within the specified period to make a profit.
There is always the possibility that the stock will move in the opposite of the desired direction, making the options less of the money or even out of the money. In that case, intrinsic value declines or completely disappears leaving only the premium, which is at the mercy of time decay.