Out of the Money
An option is 'out of the money' (OTM) when it has no intrinsic value — a call whose strike price exceeds the current stock price, or a put whose strike price is below the current stock price.
Out-of-the-money options are the most commonly traded on U.S. exchanges because their lower premiums make them attractive for leveraged speculation and low-cost hedges. An OTM call requires the stock to rise above the strike before expiration to generate any intrinsic value; an OTM put requires the stock to fall below the strike. Both are pure time-value plays — their entire premium consists of extrinsic value that will evaporate completely if the stock fails to reach the strike.
The attraction of OTM options lies in their high leverage. An OTM call might cost $0.50 per share ($50 per contract) on a $100 stock. If the stock rallies to $110 and the call's strike is $105, the option now has $5 of intrinsic value — a ten-fold return on the $50 premium. This leverage is asymmetric, however: the option must move in the right direction within the allotted time frame, or the entire premium is lost.
OTM options have lower delta than ITM or ATM options, meaning they are less sensitive to small price changes. A $0.20 delta OTM call increases in value by only $0.20 for every $1 rise in the stock. This also implies roughly a 20% probability of the option expiring in the money, based on a simplified Black-Scholes interpretation of delta as a probability proxy (though this is not a precise actuarial probability).
For options sellers, OTM contracts are appealing because they collect premium with the expectation that the contract will expire worthless. Iron condors, covered calls, and cash-secured puts all involve selling OTM options. The risk for sellers is a rapid directional move that pushes the stock past the strike, converting the OTM option into an ITM liability.
Transaction costs relative to premium are higher on deeply OTM options because the bid-ask spread often represents a significant percentage of the total premium. A $0.05 bid/$0.10 ask spread on a $0.15 option represents a 33% to 67% spread, meaning round-trip costs consume a substantial portion of any potential gain. Traders should factor in liquidity carefully when selecting OTM strikes.