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LEAPS® Pricing

Options involve risk and are not suitable for all investors.
Options involve risk and are not suitable for all investors. Certain requirements must be met to trade options. Before engaging in the purchase or sale of options, investors should understand the nature of and extent of their rights and obligations and be aware of the risks involved in investing with options. Please read the options disclosure document titled "Characteristics and Risks of Standardized Options (PDF)" before considering any option transaction. You may also call the Investment Center at 877.653.4732 for a copy. A separate client agreement is needed. Multi-leg option orders are charged one base commission per order, plus a per-contract charge.

Options pricing models use five factors to determine an option's theoretical value:
  • Stock or ETF price
  • Strike price
  • Time to expiration
  • Interest rates (minus dividends)
  • Volatility of the underlying stock
For shorter-term options, it is common to use an interest rate that approximates the risk-free interest rate. Most people use the U.S. Treasury-bill rate (90-day).
Pricing longer-term options is more difficult than pricing shorter-term options. To price a LEAPS® option, it is necessary to predict volatility (expectation of price fluctuation) of the underlying stock and interest rates for up to 2-½ years. Of the factors mentioned, interest rates play a more significant role in the pricing of longer-dated options due to the length of time. As a result, even professionals struggle to quote prices for options with maturity dates far in the future. The predictability of the inputs is more unreliable than for shorter-term options. Changes in implied volatility can also significantly alter LEAPS® options' premiums.
Despite difficulties, exchange policies generally require market makers and specialists to offer quotations (both bid and offer) for up to 10 contracts. This allows investors to find a market for LEAPS® at any time.
Content licensed from the Options Industry Council is intended to educate investors about U.S. exchange-listed options issued by The Options Clearing Corporation, and shall not be construed as furnishing investment advice or being a recommendation, solicitation or offer to buy or sell any option or any other security. Options involve risk and are not suitable for all investors.

Content licensed from the Options Industry Council. All Rights Reserved. OIC or its affiliates shall not be responsible for content contained on Merrill's Website, or other Company Materials not provided by OIC. OIC education can be accessed at the OIC web site popup.
Select to close help pop-up A call option is in the money if the strike price is less than the market price of the underlying security. A put option is in-the-money if the strike price is greater than the market price of the underlying security.
Select to close help pop-up The amount of the option premium that is attributable to the amount of time remaining until the expiration of the option contract.
Select to close help pop-up The market's forecast of a likely movement in the underlying security.

Without the Jargon

LEAPS® premiums are made up of the same components of shorter dated options, in-the-moneyHover to view help pop-upSelect to view help pop-upA call option is in the money if the strike price is less than the market price of the underlying security. A put option is in-the-money if the strike price is greater than the market price of the underlying security. value, time valueHover to view help pop-upSelect to view help pop-upThe amount of the option premium that is attributable to the amount of time remaining until the expiration of the option contract., implied volatilityHover to view help pop-upSelect to view help pop-upThe market's forecast of a likely movement in the underlying security., and interest rates. Longer dated options require a closer look at the interest rate environment. Interest rate risk has the greatest effect on longer dated options. This risk exists in a high interest environment when holding cash in an interest bearing account is more advantageous. Higher interest rates tend to increase call premiums and tend to decrease put premiums.
Options involve risk and are not suitable for all investors. Certain requirements must be met to trade options. Before engaging in the purchase or sale of options, investors should understand the nature of and extent of their rights and obligations and be aware of the risks involved in investing with options. Please read the options disclosure document titled "Characteristics and Risks of Standardized Options (PDF)" before considering any option transaction. You may also call the Investment Center at 877.653.4732 for a copy. A separate client agreement is needed. Multi-leg option orders are charged one base commission per order, plus a per-contract charge.
View definitions for investment terms in our Glossary.
The material was provided by a third party not affiliated with Merrill or any of its affiliates and is for information and educational purposes only. The opinions and views expressed do not necessarily reflect the opinions and views of Merrill or any of its affiliates. Any assumptions, opinions and estimates are as of the date of this material and are subject to change without notice. Past performance does not guarantee future results. The information contained in this material does not constitute advice on the tax consequences of making any particular investment decision. This material does not take into account your particular investment objectives, financial situations or needs and is not intended as a recommendation, offer or solicitation for the purchase or sale of any security, financial instrument, or strategy. Before acting on any recommendation in this material, you should consider whether it is in your best interest based on your particular circumstances and, if necessary, seek professional advice.
For purposes of all the computations discussed in this article, commissions, fees and margin interest and taxes, have not been included in the examples. These costs obviously will impact the outcome of any stock or option transaction. Any strategies discussed, including examples using actual securities and price data, are strictly for illustrative and educational purposes only and are not to be construed as an endorsement, recommendation or solicitation to buy or sell securities. Past performance is not a guarantee of future results.
This material is being provided for informational purposes only. Nothing herein is or should be construed as investment, legal or tax advice, a recommendation of any kind, a solicitation of clients, or an offer to sell or a solicitation of an offer to invest in options. The information herein has been obtained from third-party sources and, although believed to be reliable, has not been independently verified and its accuracy or completeness cannot be guaranteed.

Supporting documentation for any claims, comparisons, recommendations, statistics or other technical data will be furnished on request.
Merrill, its affiliates, and financial advisors do not provide legal, tax, or accounting advice. You should consult your legal and/or tax advisors before making any financial decisions.
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Investing in securities involves risks, and there is always the potential of losing money when you invest in securities.

Asset allocation, diversification, and rebalancing do not ensure a profit or protect against loss in declining markets.
Merrill, its affiliates, and financial advisors do not provide legal, tax, or accounting advice. You should consult your legal and/or tax advisors before making any financial decisions.

This material is not intended as a recommendation, offer or solicitation for the purchase or sale of any security or investment strategy. Merrill offers a broad range of brokerage, investment advisory (including financial planning) and other services. Additional information is available in our Client Relationship Summary (PDF).

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