Time Premium
The good stuff! Time Premium is the reason people sell call options. You collect this value over time. You LOVE time premium.
Options are a wasting asset, a decaying asset. They lose value over time. Which is another way of saying that the time premium in an option decreases as time passes. For the seller of options (i.e. you) this process works in your favor. You sell options when they have time premium and then wait as the time premium goes down over time. At expiration the time premium is zero, and the option either expires worthless or, if it's in the money, is exercised.
For out of the money (OTM) options, time premium is the option price. Example: XYZ stock is at 37, and a call option with a strike of 40 is selling for $1. The option has time premium of $1/share.
For in the money (ITM) options, time premium is call strike plus the call bid minus the current stock price. Example: XYZ stock is at $37; a call option with a strike of 35 selling for $5 has time premium of $3/share (35 + 5 - 37).
In both cases the time premium is your income per share (profit) between now and option expiration.
In addition to collecting time premium, you may also make or lose money on the underlying stock, but that's called capital gain (upside potential) or, if negative, capital loss.
Time Premium Example
Time premium, intrinsic value, and upside potential relate to each other like this:
Stock Price |
Call Strike |
Call Bid |
Time Premium |
Intrinsic Value |
Upside Potential |
|---|---|---|---|---|---|
| 37.00 | 30 ITM 7 points |
9.40 | 2.40 ITM: 30+9.40-37 |
7.00 ITM: 37 - 30 |
0.00 ITM |
| 37.00 | 35 ITM 2 points |
5.20 | 3.20 ITM: 35+5.20-37 |
2.00 ITM: 37 - 35 |
0.00 ITM |
| 37.00 | 40 OTM 3 pts |
1.90 | 1.90 OTM: 1.90 |
0.00 OTM |
3.00 OTM: 40 - 37 |
| 37.00 | 45 OTM 8 pts |
0.80 | 0.80 OTM: 0.80 |
0.00 OTM |
8.00 OTM: 45 - 37 |
For an example showing time premium and intrinsic value graphically, see our blog article Time Premium In Options.