A contract that gives the person who buys it (the “holder”) the right, but not the obligation, to buy an asset (perhaps 1,000 shares) at a fixed price (“the strike”) on or before a specified date.
The further the price of the asset is above the strike price at the point the option is exercised, the higher the potential profit for the holder. However in return for granting the option the seller (the “writer”) will demand a non-refundable sum (“the premium”) which is paid whether the option is used (“exercised”) or not.