Intrinsic Value and Time Value
An option's price splits into two parts: what it's worth right now, and what it's worth because there's still time left.
Risk warning: forex, CFDs, options, futures and crypto assets usually involve leverage or high volatility, and you can lose more than you put in. This lesson only teaches the concepts; all numbers are for illustration and are not investment advice.
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Text version · Options Basics, lesson 7: “Intrinsic Value and Time Value”
An option's price splits into two parts: what it's worth right now, and what it's worth because there's still time left.
Price = what it's worth now + what time might bring
Intrinsic value is the money you'd get by exercising right now; the rest is time value, which is thicker the further away expiration is and the higher the volatility.
Out-of-the-money options: all time value
An out-of-the-money option is worth nothing if exercised now, so its price is 100% time value; if it doesn't become in the money before expiration, it goes to zero.
Time value is thickest near the money
When the stock is hugging the strike price, a move either way could decide the outcome, so “uncertainty” is worth the most. The deeper in or out of the money, the more certain the outcome and the thinner the time value.
Key takeaways
- Option price = intrinsic value + time value.
- An out-of-the-money option has zero intrinsic value, so its whole price is time value.
- The further from expiration and the more volatile, the more time value. Time value is thickest near the money.
- On expiration day time value drops to zero, leaving only intrinsic value.
Try it yourself
You can do these exercises in this lesson's interactive simulation:
- Click “Load example”: check how much of the $8 price is intrinsic value and how much is time value.
- Drag the stock to $95 (Call out of the money): what does the intrinsic value become? How much of the price is left?
- Press ▶ to let time pass: how does the solid line (the option price) close in, step by step, on the green dashed line (intrinsic value)?
- Drag the stock to $100 (same as the strike), then raise volatility from 10% to 80%: how much does the “Time value” go up?
Quiz and explanations
- 1. The stock is $105 and a $100-strike call costs $8. What's its time value?
- Answer: $3.Intrinsic value is $5, and $8 − $5 = $3.
- 2. The whole price of an out-of-the-money option is…
- Answer: Time value.An out-of-the-money option has no intrinsic value.
- 3. The stock is $95 and a $100-strike put is quoted at $7. What's its time value?
- Answer: $2.The put's intrinsic value = 100 − 95 = $5, so time value = $7 − $5 = $2.
Terms in this lesson
- intrinsic value (Intrinsic Value): What you'd get by exercising right now; for a call, max(stock price − strike, 0).
- in the money (ITM) (ITM): An option with intrinsic value, such as a call whose strike is below the stock price.
- out of the money (OTM) (OTM): An option with no intrinsic value, such as a call whose strike is above the stock price.
- strike price (Strike): The price written into an option contract at which you can buy or sell.
- time value (Time Value): The part of an option's price above its intrinsic value, reflecting the chance it gains value before expiry; it melts away over time.
- volatility (Volatility): How wildly the underlying's price swings; the bigger the swings, the more expensive options get.