With respect to an option, this cost is known as the premium. It is the price of the option contract. In our home example, the deposit might be $20,000 that the buyer pays the developer. Let’s say two years have passed, and now the developments are built and zoning has been approved. The home buyer exercises the option and buys the home for $400,000 because that is the contract purchased.
Pay a “premium” wherever you buy a commodity option. Let's say you purchase a “call” option on 100 bushels of corn, and the premium is $2 per bushel. You will pay $200 for the right to exercise your option until it expires. That is your only cost to purchase the option, except for whatever commission you had to pay to your brokerage company. Even if you choose not to exercise the option before it expires, your investment will be limited to the $200 premium plus commission.
Options are powerful because they can enhance an individual’s portfolio. They do this through added income, protection, and even leverage. Depending on the situation, there is usually an option scenario appropriate for an investor’s goal. A popular example would be using options as an effective hedge against a declining stock market to limit downside losses. Options can also be used to generate recurring income. Additionally, they are often used for speculative purposes such as wagering on the direction of a stock.
Volatility: If an options market is highly volatile (i.e. if its daily price range is large), the premium will be higher, because the option has the potential to make more profit for the buyer. Conversely, if an options market is not volatile (i.e. if its daily price range is small), the premium will be lower. An options market's volatility is calculated using its long-term price range, its recent price range, and its expected price range before its expiration date, using various volatility pricing models.
There are also exotic options, which are exotic because there might be a variation on the payoff profiles from the plain vanilla options. Or they can become totally different products all together with "optionality" embedded in them. For example, binary options have a simple payoff structure that is determined if the payoff event happens regardless of the degree. Other types of exotic options include knock-out, knock-in, barrier options, lookback options, Asian options, and Bermudan options. Again, exotic options are typically for professional derivatives traders.
An option is a contract that allows (but doesn't require) an investor to buy or sell an underlying instrument like a security, ETF or even index at a predetermined price over a certain period of time. Buying and selling options is done on the options market, which trades contracts based on securities. Buying an option that allows you to buy shares at a later time is called a "call option," whereas buying an option that allows you to sell shares at a later time is called a "put option."