Stock market index option

A stock market index option is a type of option, a financial derivative, that is based on stock indices like the S&P 500 or the Dow Jones Industrial Average. They give an investor the right to buy or sell the value of the underlying stock index for a defined time period.^[1] Because index options are based on a large basket of stocks, they allow investors to gain exposure to the market as a whole and take advantage of diversification. Index options may be tied to the price of either "broad-based indexes" like the S&P 500 or the Russell 3000 or to "narrow-based indexes", which are limited to a particular industry.^[2] The global market for exchange-traded stock market index options was notionally valued by the Bank for International Settlements (BIS) at $368,900 million in 2005.

A stock index option provides the right to trade an amount of cash based on the level of a specific index at a specified price by a specified expiration date. A call option on a stock index gives the holder the right to buy the index value, and a put option on a stock index gives the holder the right to sell the index value.

One difference between stock index options and index exchange-traded funds (ETFs) is that ETF values change throughout the day, whereas the intrinsic value of a stock index option is based on the index value at a certain time, usually the value at market closing time. If an index option is exercised before the close of the market, the buyer of the option will be in- or out-of-the-money for an additional amount equal to the difference between the closing price and the exercise price. For this reason, index options are typically exercised after the market has closed.

See also

• Stock market index future
• Derivative (finance)
• Financial risk management § Investment management