Types of options

Equity options are issued over shares in individual companies allowing you to trade based on your view of that company’s likely share performance.

For example, you might trade call options if you think the company’s share price will increase, or put options if you think its share price will fall.

The value of an equity option varies according to movements in the value of the underlying shares. Equity options are only issued over shares in ASX-approved companies. Options are usually exercisable on or before the expiry date.

Equity call option holders do not receive dividends or franking credits, nor do they have voting rights in the company. A call holder must exercise the option and take ownership of the underlying shares to be eligible for these rights.

Put option holders only receive dividends or franking credits if they hold the shares that relate to the option (i.e. ‘covered’ positions).

Options on Exchange Traded Funds (ETFs) trade just like equity options, with the ETF tracking the price performance and yield of a specific index, sector or strategy. ETF options are physically settled and have European-style exercise. Like equity options, they can be used to hedge a position, gain leveraged exposure to the market tracked by the ETF, or potentially create additional income by writing options over an existing ETF position. And like index options, they enable investors to take a position on a broad market through a single trade.

Index options give you exposure to a market index, such as the S&P/ASX 200. They offer similar benefits to options traded over shares in individual companies with the added benefit that they offer exposure to the broad range of securities that make up an index.

You can use index options to trade based on your view of whether the index as a whole will go up or down.

As with equity options, both call and put index options are available. However, there are a few differences:

• Index options can only be exercised on their expiry date.
• They are cash-settled, meaning you will receive or pay a cash payment on exercise, and the settlement price is based on the opening price of the index on the morning of the expiry date.
• The strike price and premiums for index options are expressed in index points, rather than as a cash value.

Low exercise price options (LEPOs) are a specialised form of option that closely track the price of the underlying stock or index. LEPOs don’t require you to pay an upfront premium. Instead, you make margin payments throughout the life of the LEPO. These margin payments can be offset against other exchange-traded option positions.

LEPOs are available over indices and company shares. They are only available as call options. The exercise price is typically set very low (typically A$0.01). Because of this, LEPOs trade for large premiums. LEPOs are only exercisable at expiry.

Share LEPOs: When you take a share LEPO, you obtain the right to buy an agreed number of shares (usually 100 shares per contract) at a specified future date in return for the payment of the exercise price (for example, 1 cent) and the original premium at which the LEPO traded.

Buying a LEPO is similar to a forward purchase of shares, while selling a LEPO is similar to a forward sale of shares. Using a LEPO can be a cost-effective alternative to borrowing to fund a share purchase.

Index LEPOs: Index LEPOs give forward-style exposure to the sharemarket. Like traditional index options, they are cash-settled and the premium is expressed in index points. Buyers of index LEPOs notionally buy the underlying index on the expiry date. Sellers of index LEPOs commit to notionally selling the index on the expiry date.

Buyers make a profit if the level of the underlying index on the expiry date is greater than the premium. Sellers make a profit if the level of the underlying index is less than the premium.

TORESS LEPOs: A third category of LEPOs. Refer to the fact sheet in the Quick Links section below.