At The Money (ATM) definition
The term “at-the-money”, also referred to as “on-the-money”, defines an options contract with a strike price that is identical to the underlying market price.
An options contract is a derivative or an agreement between two parties that gives the buyer the right, but not the obligation, to buy or sell the underlying asset at a specific date (expiration date), at a specified price (strike price). There are also two types of options – call options and put options.
“At-the-money” means the option contract has no intrinsic value as the strike price is the same as the market price. However, it can easily evolve into an intrinsic value if the option becomes “in-the-money” (ITM), or lose its value when it is “out of the money” (OTM).
For example, a trader decides to buy a call option with a strike price of $15. If the market price is also $15, then the option is at the money. If the market price increases beyond the $15 mark, it will be in the money, but if the price falls below that, it will be out of the money,and the call option cannot be exercised.
The opposite is true if it’s a put option. Let’s say a trader decides to buy a put option with a strike price of $15. If the market price is at $15, then it is “at-the-money”. It will only become in the money once the underlying asset’s market price falls below $15, but if it increases beyond that point, it will be considered as out-of-the-money.
While at-the-money options have no intrinsic value and will result in a loss if exercised because of the premium paid for the option, it is also the point at which the option will start to have an intrinsic value.
At-the-money options are the most sensitive to various risk factors, including time decay, changes in volatility, and changes in interest rates. They also only have extrinsic value, similar to OTM options, because they possess no intrinsic value.
Intrinsic value refers to the inherent worth of an option. It is the difference between an option’s strike price and the underlying asset’s price. Meanwhile, extrinsic value is the portion of worth that has been assigned to an option by factors other than the underlying asset’s price. It can be computed by using the difference between the market price of an option (premium) and its intrinsic price.