Call

What Is a Call in Finance?

In finance, the term “call” most commonly refers to either a call option or a call auction. It can also describe other, less frequent uses such as a company’s earnings call or the redemption (call) of outstanding bonds by an issuer.

Call Option: Definition and How It Works

• A call option is a derivative contract that gives the buyer the right, but not the obligation, to purchase a specified quantity of an underlying asset (stock, bond, commodity, currency, etc.) at a predetermined price (the strike) before or at a specified expiration date.
• The seller (writer) of the call has the obligation to deliver the underlying asset if the buyer exercises the option.
• If the underlying’s market price is above the strike at expiration, the call is “in the money” (ITM) and exercise is potentially profitable; if the market price is below the strike, the option expires worthless (out of the money, OTM).
• Buyers pay a premium up front; their maximum loss is the premium. Sellers may face larger losses if the market moves against them.

Example:
– Buy a call on a stock with strike $100, premium $2, expiring in one month. If the stock is above $100 at expiration, the buyer can purchase at $100 and may realize a profit after accounting for the $2 premium. If the stock remains below $100, the option expires worthless and the buyer loses the $2 premium.

Uses of Call Options

• Speculation: Leverage to profit from expected price increases with limited initial outlay.
• Hedging: Protect short positions or lock in purchase prices.
• Income generation: Writing covered calls against owned stock to collect premiums.
• Strategy combinations: Calls and puts are combined across strikes and expirations to shape risk/reward.

Advantages and Disadvantages of Call Options

Advantages:
– Leverage: Control more exposure for less capital than buying the underlying.
– Limited downside for buyers: Loss limited to the premium paid.
– Flexible strategies: Useful for hedging, income, or speculative plays.

Disadvantages:
– Time decay: Options expire, so desired price moves must occur within the option’s lifespan.
– Potential total loss of premium for buyers if the option finishes OTM.
– Complexity: Requires understanding of pricing, Greeks, and strategy risks.
– For sellers/writers: Potentially large or unlimited losses if uncovered.

ITM vs OTM Calls

• ITM (In-the-money): Strike < market price. Has intrinsic value and higher probability of profit, but higher premium.
• OTM (Out-of-the-money): Strike > market price. Cheaper, higher leverage, but needs larger price movement to become profitable.

Selling (Writing) Calls

• You can sell to close an existing long option position or write new calls.
• Covered call: Writing calls while owning the underlying stock to generate income and potentially sell the stock at the strike.
• Naked call writing involves unlimited risk if the underlying rises sharply.

Call Auction: Definition and Mechanics

• A call auction (call market) is a trading method in which buy and sell orders are collected over a set period and matched at a single clearing price when the auction ends.
• Participants submit priced orders (maximum buy or minimum sell). The exchange determines a price that maximizes matched quantity.
• During the auction, the security can be illiquid until the next call period.

When call auctions are used:
– To stabilize trading after halts or during volatile periods.
– To determine official closing prices used for indexes and fund valuations.
– In less liquid markets where aggregating orders at specific times improves price discovery.

Example:
– Buyers X, Y, Z place orders for different quantities at different prices. The auction clears at the price that satisfies the maximum number of shares, and all matched trades execute at that single clearing price.

Alternatives to Call Auctions

• Continuous trading: Orders matched in real time during market hours.
• Dutch auction: Price starts high and falls until orders are filled.
• Sealed-bid auction: Bids submitted confidentially; highest bid wins.
• Uniform-price auction: All winners pay the same clearing price.
• Discriminatory-price auction: Winners pay their individual bid prices.

Other Meanings of “Call”

• Earnings call: A conference where a company discusses financial results with investors and analysts.
• Bond call feature: When an issuer redeems a callable bond before maturity.

Key Takeaways

• “Call” most often refers to a call option (a right to buy) or a call auction (a timed matching of orders).
• Call options offer leverage and defined downside for buyers but carry time-limited risk and complexity.
• Call auctions aggregate orders to improve price discovery and stability, particularly in volatile or illiquid markets.