Option contract and futures contract
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What is the difference between an option contract and a future contract?
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Solution Summary
This solution of about 500 words, clearly indicates the difference between futures contracts and an option contract. Along with comparing and contrasting these two types of contracts, this solution also details the other players involved in these contracts and the risk which is associated with them.
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An option contract is the right, but not the obligation, to buy (for a call option) or sell (for a put option) a specific amount of a given stock, commodity, currency, index, or debt, at a specified price (the strike price) during a specified period of time.
Option contracts, like stocks, are therefore said to have an asymmetrical payoff pattern. For the writer, the potential loss is unlimited unless the contract is covered, meaning that the writer already owns the security underlying the option. Option contracts are most frequently as either leverage or protection. As leverage, options allow the holder to control equity in a limited capacity for a fraction of what the shares would cost. The difference can be invested elsewhere ...
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