American options can be exercised at any time between the date of purchase and the expiration date. European options are different from American options in that they can only be exercised at the end of their lives on their expiration date. The distinction between American and European options has nothing to do with geography, only with early exercise. Many options on stock indexes are of the European type. Because the right to exercise early has some value, an American option typically carries a higher premium than an otherwise identical European option. This is because the early exercise feature is desirable and commands a premium.
The world of commodity options is diverse and cannot be given justice in a short article such as this. The purpose of this writing is to simply introduce the topic of options on futures. Should you want to learn commodity options trading strategies in more detail, please consider purchasing "Commodity Options" published by FT Press at www.CommodityOptionstheBook.com.
Trading in commodity futures contracts can be very risky for the inexperienced. The high degree of leverage used with commodity futures can amplify gains, but losses can be amplified as well. If a futures contract position is losing money, the broker can initiate a margin call, which is a demand for additional funds to shore up the account. Further, the broker will usually have to approve an account to trade on margins before they can enter into contracts.
Options belong to the larger group of securities known as derivatives. A derivative's price is dependent on or derived from the price of something else. As an example, wine is a derivative of grapes ketchup is a derivative of tomatoes, and a stock option is a derivative of a stock. Options are derivatives of financial securities—their value depends on the price of some other asset. Examples of derivatives include calls, puts, futures, forwards, swaps, and mortgage-backed securities, among others.
There is a concert of Coldplay happening in an auditorium in Mumbai next week. Mr X is a very big fan of Coldplay and he went to ticket counter but unfortunately, all the tickets have been sold out. He was very disappointed. Only seven days left for the concert but he is trying all possible ways including black market where prices were more than the actual cost of a ticket. Luckily his friend is the son of an influential politician of the city and his friend has given a letter from that politician to organizers recommending one ticket to Mr.X at actual price. He is happy now. So still 6 days are left for the concert. However, in the black market, tickets are available at a higher price than the actual price.
However, options are not the same thing as stocks because they do not represent ownership in a company. And, although futures use contracts just like options do, options are considered lower risk due to the fact that you can withdraw (or walk away from) an options contract at any point. The price of the option (its premium) is thus a percentage of the underlying asset or security.