If you’ve ever dabbled in options trading, you’ve likely come across the terms In-The-Money (ITM) and Out-Of-The-Money (OTM). While they might sound like something out of a poker game, these terms actually hold the key to understanding how options derive their value and what makes them worth buying or selling.
For beginner investors, ITM and OTM options can be a bit confusing. Why would anyone buy an option that’s out of the money when they could just get one that’s already profitable? And if ITM options are already valuable, why not always trade those? The answers lie in risk, reward, and strategy.
In this post, we’ll break down:
✔ What ITM and OTM options mean
✔ Key differences between them
✔ Real-world examples of how they work
✔ When traders choose one over the other
By the end, you’ll have a solid grasp of when and why traders use ITM vs. OTM options—and how they fit into different investment strategies. Whether you’re a beginner or looking to refine your trading approach, this guide will help you make smarter, more informed decisions in the options market.
Defining ITM and OTM Options
To fully grasp the difference between In-The-Money (ITM) and Out-Of-The-Money (OTM) options, we first need to understand what it means for an option to have intrinsic value.
- Intrinsic Value is the built-in profit an option has if exercised immediately.
- Extrinsic Value (or "time value") is the additional price paid for the potential of future profit before expiration.
Now, let’s break down the two categories:
In-The-Money (ITM) Options
An option is ITM when it has intrinsic value—meaning it would be profitable to exercise immediately.
- For Call Options: ITM means the option’s strike price is below the current market price of the underlying asset.
- Example: If Apple (AAPL) stock is trading at $180, a $170 call option is ITM because you can buy the stock at $170 and immediately sell it for $180.
- For Put Options: ITM means the option’s strike price is above the current market price of the underlying asset.
- Example: If AAPL is trading at $180, a $190 put option is ITM because you can sell the stock at $190 while the market price is only $180.
Out-Of-The-Money (OTM) Options
An option is OTM when it has no intrinsic value, meaning exercising it wouldn’t be profitable.
- For Call Options: OTM means the option’s strike price is above the current market price of the asset.
- Example: If AAPL is at $180, a $190 call option is OTM because buying at $190 isn’t profitable when the market price is $180.
- For Put Options: OTM means the option’s strike price is below the current market price of the asset.
- Example: If AAPL is at $180, a $170 put option is OTM because selling at $170 isn’t profitable when the market price is $180.
Key Differences Between ITM and OTM Options
| Feature | In-The-Money (ITM) | Out-Of-The-Money (OTM) |
|---|---|---|
| Intrinsic Value | Yes (Has value) | No (Has no value) |
| Option Premium | Higher (more expensive) | Lower (cheaper) |
| Risk Level | Lower risk (higher probability of profit) | Higher risk (lower probability of profit) |
| Profit Potential | Moderate to high | High, but riskier |
| Best For | Conservative traders, hedging strategies | Speculative traders seeking large returns |
Example: ITM vs. OTM in Action
Let’s say you believe Tesla (TSLA) stock will rise from $700 to $750 in the next month. You consider two call options:
- ITM Call Option: Strike price at $680, costs $35 per contract
- OTM Call Option: Strike price at $750, costs $10 per contract
How They Perform If TSLA Hits $750:
ITM Call ($680 Strike):
- Intrinsic value = $750 - $680 = $70 per share
- Profit = $70 - $35 = $35 per share
OTM Call ($750 Strike):
- Intrinsic value = $750 - $750 = $0 (option expires worthless)
- Loss = $10 per share
💡 Key Takeaway: ITM options are safer and more likely to be profitable, while OTM options offer higher potential returns but come with greater risk.
Investor Strategies: When to Choose ITM or OTM?
✔ When to Choose ITM Options:
✅ More conservative traders who prefer less risk and a higher chance of profitability
✅ Investors hedging against price movements in existing stock holdings
✅ Shorter-term traders looking for a reliable return on their investment
✔ When to Choose OTM Options:
✅ Speculative traders looking for higher returns with lower upfront cost
✅ Investors expecting a big price move in the stock
✅ Longer-term traders who believe an option’s value will increase over time
Final Thoughts
Choosing between ITM and OTM options depends on your risk tolerance, investment goals, and market expectations. ITM options provide safer but costlier trades, while OTM options offer higher-risk, high-reward potential. Smart traders balance both in their portfolios to maximize returns while managing risk.
📌 Pro Tip: Always consider volatility, expiration dates, and the broader market trend before deciding which type of option to trade!
Wrapping It Up: ITM vs. OTM – Which One Should You Choose?
At its core, the decision between In-The-Money (ITM) and Out-Of-The-Money (OTM) options comes down to risk and reward.
- If you’re looking for a safer bet with a higher probability of profit, ITM options are your best choice. They cost more, but they have intrinsic value and are less likely to expire worthless.
- If you’re a risk-taker willing to bet on big price movements, OTM options offer lower upfront costs with the potential for high returns—but they also come with a greater chance of expiring worthless.
Which is best? It depends on your strategy! Many seasoned traders use a combination of ITM and OTM options in their portfolio to balance security and speculative opportunities.
👉 Final Tip: Before making any options trade, always consider:
✔ Your risk tolerance – Can you afford to lose the entire premium?
✔ Market trends – Is the stock likely to move in your expected direction?
✔ Expiration date – How much time does the option have to become profitable?
