Practical Law Glossary Item 9-386-5189 (Approx. 3 pages)
Glossary
Out of the Money
Phrase used to describe a party with a net negative balance owed (though not necessarily due) from a counterparty under one or more financial transactions, such as a swap or other derivative transaction.
For example, parties to an ISDA Master Agreement do not typically settle their trades on a daily or even weekly basis. Rather, the parties run debit and credit balances with one another (usually backed by the daily or weekly exchange of margin collateral). Whenever the aggregate value of all trade positions under a particular trade or group of trades entered into under the agreement is negative for a party, that party is said to be out of the money on that trade or group of trades.
This term is also commonly used in the context of options. In a situation where the exercise or strike price for an option is:
In the case of a call option, above the market price of the asset or commodity underlying the option, which would not permit the party exercising the call option to buy the underlying asset or commodity at a lower price and sell it at the (higher) market price for a profit, such option is out of the money to that party.
In the case of a put option, below the market price of the asset or commodity underlying the option, which would not permit the party exercising the put option to sell the underlying asset or commodity at a higher price and buy it at the (lower) market price for a profit, such option is out of the money to that party.