Which is better ITM, ATM, or OTM in Trading?

You want to do trading in Nifty and open option chain data on the NSE Website. As per your research, the market will go up in the upcoming days. You decided to buy call options.

You have seen different prices at different strike prices. You need clarification about what strike price I should buy my call option. As a beginner, you will choose LTP with a minimum value that’s Rs. 60.80 on a Strike Price of 21800 because it will require a minimum amount for trading which will be 60.80 X 50 = Rs. 3040.

Now before choosing a suitable price for your trading, you should know some basics about the option chain. I will discuss how you should trade in the stock market with suitable option prices.

Before moving further, I am providing a few terminology about options:

• Strike Price: The Strike price is the price at which you can buy a put or call option. Suppose you want to buy a call at 21400 then this will be your strike price.

• Spot Price: The Spot price is the price at which the market currently trades. If the market is trading at 21750, It will be its spot price.

• Intrinsic Value: The intrinsic value of an option is the amount of real worth or value it has. For a call option, it’s the difference between the Spot Price and the strike price, if the stock price is higher. For a put option, it’s the difference between the strike price and the Spot price, if the stock price is lower. It’s like knowing how much money you would make if you used the option right away.

Now let’s understand the concepts of ATM, ITM, and OTM.

ATM(At the Money)

ATM is the closest option contract to the strike price. If the market is trading at 21540 then its close strike price will be 21550 it will be an ATM(At the Money) option.

For more clarification, let’s take another example.

If the market is trading at the spot price of 21624. Then its nearest strike price will be 21600 and 21650. Now let’s calculate what will be its ATM.

From the above table, we concluded that a strike price of 21,600 has a minimum difference so it will ATM option.

ITM(In the Money)

If the option contract has some intrinsic value then it will be called ITM.

• A call option would be ITM if its strike price is less than the spot price.
• A put option would be ITM if its strike price is higher than the spot price.

If the spot price is 21600 and its strike price is 21450, then its intrinsic value will be 21600 – 21450 = 150. Because it has some Intrinsic value, it will be an ITM option.

OTM(Out of the Money)

If the option contract has zero intrinsic value(Intrinsic value cannot be negative) then it will be called OTM.

• A call option would be OTM if its strike price is higher than the spot price.
• A put option would be OTM if its strike price is lower than the spot price.

If the spot price is 21600 and its strike price is 21750, then its intrinsic value will be 21600 – 21750 = -150. Intrinsic value cannot be zero so a Negative Intrinsic value can be considered as Zero. An option contract with Zero Intrinsic value is an OTM call option.

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What should you Buy?

Let’s deep dive into the price value and profit with ITM, ATM, and OTM. Suppose the market is trading at a spot level of 21,550.

• If You are buying an ITM call option with a strike price of 21400. You are paying a premium of Rs. 400 for this contract. It means you will get a profit if the spot price is greater than the strike price + premium. In simple words, you will get a profit if the market moves above 21400 + 400 = 21800 level till expiry.
• If you are buying an ATM call with the strike price of 21550(same as the spot Price) and paying the same premium of Rs. 400, you will get the benefit if the market moves above  21550 + 400 = 21950 level till expiry.
• If you are buying an OTM call with the strike price of 21750 and paying the same premium of Rs. 400, you will get the benefit if the market moves above 21750 + 400 = 31150 level till expiry.

Based on the above three points, what level is easy to achieve if the market is trading at the spot price of 21,550?

21,800 because of less difference. For put options, if the market decreases at the same levels you will get the benefit.

Let’s understand it with the live market data of Nifty.

Now Let’s discuss risk-reward in all three options:

When Should You Buy OTM Options?

OTM options can give you a huge profit if it will be used in a short period.

Looking at the chart for the Adani Enterprises 3400 call, there’s a big jump between 2:00 PM and 2:55 PM. The price went from Rs. 3.50 to Rs. 10.80, tripling in just 55 minutes. It’s not a good idea to consider this for a long time.