What is a Premium?

Premium is the fee paid by the option buyer to option seller for granting him privileged of the right of exercising an option. Option premium is always positive. When things go bad, premium hover around zero. When things go well, premium can be very large. Premium can never be negative.

Premium = Intrinsic Value (I) + Time Value (T)

Intrinsic value = The difference between Strike Price and Spot Price. Only, In The Money Options have Intrinsic value. At The Money and Out Of The Money Options intrinsic value is
zero. It is never negative.

Time Value :

This is also known as extrinsic value. The is quantification of the probability of the change in the
underlying price during the remaining life of the Option. This value is function of two factors.

• Time left for expiry.
• Volatility of the underlying.