Call

To figure out what calls are all about, we first have to understand options trading. There are two kinds of options: call options if you want to predict the price of an asset will go up within a period of time, or put options where you predict the price will go down.

With us so far? All options have an underlying "instrument" that could be a stock, bond, commodity (corn, wheat, etc.), or foreign currency. Traders, also called "writers," sell call options on a stock, for example, and set a "strike price" (what price the stock must reach) for a particular time period.

For a call option, another trader buys the option, giving him or her the right (but not the obligation) to buy a specific number of shares at the strike price within that timeframe. If the buyer of the call option does decide to "exercise" (buy) the shares, the seller has to deliver them. When the strike price is less than the market price at the end of the agreed-upon timeframe, the buyer would most likely decide not to exercise the option, and just let them expire.

Let's say Alice owns 12,000 shares of Call Me Happy, Inc. that are valued at $5.00 a share. With all that is going on in the economy, she starts to worry that the price will go down in the relatively near future. So she decides to protect herself and decides to sell a call option to Richard, who thinks the price will continue to go up. Their contract states that Richard can buy Alice's 12,000 shares six months from now at $6.00 per share. If the market price is only $4 at the end of six months, Richard will no longer be interested and they will let the call option expire.

However, if the stock rises to $7 a share, Richard can exercise his option, buy the shares at $6 and pocket the profit.