In options, a key variable in a derivatives contract between two parties is known as the strike price, or exercise price. Where the delivery of the underlying instrument is required by the contract, the trade will be at the strike price, regardless of the spot price (market price) of the underlying instrument at that time.

Definition of Strike Price 

The strike price is the fixed price at which the owner of an option is able to purchase the underlying security or commodity, in the case of a call, or sell, it in the case of a put. When the option is exercised it is that price  at which the stock will be bought or sold.

Usually the strike price is referred to as the exercise price.

For instance, an IBM May 50 Call has a strike/exercise price of $50 a share. When the option is exercised 100 shares of IBM stock for $50 a share will be bought (Call option) by the owner of the option.

Moneyness

the relationship between the strike price of an option and the current trading price of its underlying security is described by a term Moneyness. Where settlement is financial the value, or “moneyness”, of the contract will be determined by the difference between the strike price and the spot price.

In options trading, the moneyness of options is determined by the terms such as in-the-money, at-the-money and out-of-the-money.

If the stock price were trading above the exercise price, a call option would be in-the-money. If the exercise price is higher than the market price of the underlying stock then a put option is in-the-money.

If the stock price and the exercise price are the same then a call or put option is at-the-money.

If the stock price is lower than the exercise price of the option, then a call option is said to be out-of-the-money. If the stock price is higher than the exercise price of the option, then a put option is out-of-the money.

Mathematical Formula

When the underlying has a spot price (S) above the strike price (K), a call option has positive monetary value . Since unless it is “in-the-money “, the option will not be exercised and the payoff for a call option is

It is also written as

where

when the underlying has a spot price below the strike price a put option has positive monetary value ; it is ” out-the-money ” otherwise, and will not be exercised. The payoff is therefore

or

For a digital option payoff is , where 1_{} is the indicator function.

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