Premium and time decay

The premium is the price of the contract. Understanding what it is made of explains most of the surprises beginners run into, starting with the one where the stock moved your way and your position still lost money.

What you actually pay

Premium is quoted per share, so multiply by 100 for one contract. A contract quoted at 3.42 costs 342 dollars. Like any traded instrument there is a bid and an ask, and you generally get filled somewhere between them. On thin contracts that gap alone can cost you several percent the moment you enter, which is one reason liquidity matters when picking a contract.

Premium has two parts

• Intrinsic value. What the contract would be worth if it expired right now. A 215 call with the stock at 220 has 5 dollars of intrinsic value. An out of the money contract has none.
• Extrinsic value. Everything else you are paying, which is the market charging you for the time remaining and the odds of a move. This is the part that evaporates.

What moves the premium

1. Direction. The stock moving toward your strike raises the premium, and away from it lowers the premium. This is the part everyone expects.
2. Time. Every day that passes takes a little extrinsic value out, whether the stock moves or not.
3. Volatility. When the market expects bigger moves, contracts get more expensive across the board. When it calms down, they get cheaper across the board, even with the stock unchanged.

Time decay

The daily bleed from time passing is called theta. It is small and steady when expiration is far away, and it accelerates hard in the final week. In the last day or two, an out of the money contract can lose value by the hour with the stock going nowhere.

Decay does not pause for the weekend. A contract bought Friday afternoon and sold Monday morning has paid three days of it for zero trading sessions. Holding through a quiet stretch is a real cost, not a neutral choice.

Volatility cuts both ways

Ahead of an earnings report, contracts on that stock get expensive because the market knows a big move is coming. When the report lands, that uncertainty disappears instantly and premiums drop across the board. Traders regularly call the earnings direction correctly, watch the stock gap in their favour, and still open a red position, because the volatility they paid for vanished. If you do not know why a contract is priced the way it is, do not buy it.

Right but late is still wrong

This is the sentence worth keeping. A stock that makes your move two weeks after your contract expired paid you nothing. Direction alone is not an edge in options. Direction inside a window you chose deliberately is the whole game, and choosing that window is the skill the rest of our material is about.