Did you know that the recent SEBI regulations have resulted in a drastic 75% reduction in options trading volume from 16 billion contracts in October 2024 to 4 billion contracts in March 2025? However, even after this drop, India remains a leading options trading market with many new traders taking the plunge. Are you among those new traders learning the ropes of option trading? Well, here is a critical option trading concept that you need to know, i.e., ITM, ATM and OTM options. Check out this blog to know the meaning of these terms and their importance in options trading.
The intrinsic value of options is the amount of money they would make if they were exercised right now. The intrinsic value of a call option is the current stock price minus the option’s strike price, if the stock is above the strike price. The intrinsic value of a put option (the right to sell a stock) is the strike price minus the current stock price, if the stock is below the strike price. If the result is negative or zero, the intrinsic value is simply zero, because the option would not be worth exercising at that moment.
Intrinsic value is an important concept in options trading as it helps traders know whether an option is ‘in the money’, ‘at the money’, or ‘out of the money’. An ‘in the money’ option has intrinsic value and is more likely to be profitable. An ‘out of the money’ option has no intrinsic value and would lead to a loss if exercised immediately. This value helps traders figure out whether an option is priced fairly and how much of its price comes from real value versus extra cost for potential future gains (called time value). Thus, knowing and understanding the intrinsic value enables traders to make smarter decisions about buying, selling, or holding options.
An ‘In the Money (ITM)’ option refers to an option that has intrinsic value, meaning it would generate a profit if exercised immediately. For a call option, it is ITM when the current market price of the underlying stock is higher than the strike price. For a put option, it is ITM when the market price is lower than the strike price. These options are more expensive than ‘out of the money’ options because they already hold some real value. ITM options are often chosen by traders who prefer a higher probability of profit, even though the premium paid is higher. They are considered less risky because the chance of them expiring worthless is lower compared to options that are not in the money.
Traders can access ITM options through stock exchanges such as the National Stock Exchange (NSE) by using SEBI-registered brokers or trading platforms. Here is how to trade ITM call and put options.
When trading ITM call options, traders should select a strike price that is already below the current market price of the stock, with the expectation that the stock will continue to rise.
In the case of ITM put options, traders should choose a strike price above the market price, expecting the stock to fall further.
These options are particularly useful for traders who prefer more certainty and lower time decay risk. However, traders must also consider factors such as lot sizes, liquidity, option premiums, and margin requirements set by SEBI to manage risk effectively and make informed trading decisions.
An ‘At the Money’ (ATM) option is an option where the strike price is almost equal to the current market price of the underlying asset. For example, if a stock is trading at Rs. 500, an ATM call or put option would also have a strike price around Rs. 500. These options have little or no intrinsic value but still have time value, which means their price is based on the possibility of the stock moving in a favourable direction before expiry. ATM options are popular among traders because they offer a balance between risk and reward. Furthermore, they are not as expensive as In the Money options, but have a better chance of becoming profitable compared to Out of the Money options.
Here is how to trade the ATM Call and Put option
To trade an ATM call option, a trader selects a strike price that is equal, or very close to, the current market price, expecting the stock to move upward before the option expires.
Trading an ATM put option requires the trader to choose a strike price near the current stock price, expecting the stock to fall.
ATM options are often used for short-term trading strategies, such as trading strategies or near-expiry trades, as they react more sharply to price movements in the underlying asset. Traders should also be mindful of liquidity, transaction charges, lot sizes, and margin rules while trading ATM options to ensure effective risk management and cost control.
An ‘Out of the Money’ (OTM) option is an option that currently has no intrinsic value, i.e., if exercised right now, it would not make any profit. A call option is considered OTM when the strike price is higher than the current market price of the underlying asset. This means the trader would be paying more to buy the asset than it is worth. A put option is OTM when the strike price is lower than the current market price, meaning the trader would be selling the asset for less than its actual value. These options are usually cheaper because they carry a higher risk of expiring worthless, but they also offer higher potential returns if the price moves favourably before expiry.
OTM Call and Put options can be used as under.
Traders often use OTM call options when they expect a significant upward movement in the stock price,
OTM put options are used when traders expect a strong downward move.
While OTM options are more affordable, they require a larger price movement to become profitable, making them riskier, especially close to expiry. Traders often use them in speculative strategies or for hedging when expecting volatility. It is important for traders to understand that OTM options lose value quickly due to time decay, and they should keep an eye on premium prices, liquidity, and expiry dates to make informed trading decisions.
The importance of ITM, ATM and OTM options can be explained hereunder.
Knowing the difference between ATM, ITM, and OTM options helps traders pick the right strategy based on their view of the market. For example, ITM options are good for safer trades, while OTM options are better for low-cost, high-risk trades. ATM options are useful when expecting quick movements in price.
Trading options involves paying a premium. ITM options cost more, while OTM options are cheaper. By knowing the difference, traders can plan how to use their money better. This helps in avoiding overtrading and in using capital where it has the most potential.
Each type of option carries a different level of risk. ITM options are more expensive but have a better chance of profit. OTM options are cheaper but more likely to expire worthless. By understanding these types, traders can manage their risk more effectively and avoid unexpected losses.
ITM options have higher chances of profit but smaller returns. OTM options offer bigger returns but need large price moves. Also, options lose value over time (time decay), especially ATM and OTM options. Understanding this helps traders decide when to enter or exit trades before expiry.
Options are also used to protect against losses in stock positions. ITM and OTM options can be used for hedging. Knowing which type to choose helps traders protect their investments during market volatility.
After exploring the meanings of ITM, ATM, and OTM options, let us now focus on the core differences between them to develop sound trading strategies.
The understanding of ATM, ITM, and OTM options is very important for traders, as it helps them make smart and safe trading decisions. While each type of option has its own level of risk and cost as well as profit potential, knowing the differences between them can help traders devise profitable trading strategies.
This topic attempts to simplify a very basic concept of options trading that is essential for optimum options trading. Let us know your thoughts on this topic of if you need any further information on the same.
Till then, Happy Reading!
Read More: What are Option Greek?
Marisha Bhatt is a financial content writer @TrueData.
She writes with the sole aim of simplifying complex financial concepts and jargon while attempting to clarify technical and fundamental analysis concepts of the stock markets. The ultimate goal is to spread vital knowledge and benefit the maximum audience. Her Chartered Accountant background acts as the knowledge base to help clarify crucial concepts and create a sound investment portfolio.
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