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The History of Options Trading

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  • The History of Options Trading

    Options trading in 332 BC

    The first account of options was in Aristotle's book Politics, published in 332 BC.

    Aristotle wrote of the astronomer, philosopher and mathematician Thales from Miletus, who used the stars and weather patterns to predict the next year's olive harvest. Predicting an plentiful harvest, and knowing that a large harvest would result in olive presses being in high demand, Thales knew he would make a significant profit if he owned all the olive presses in the region. Unfortunately, he didn't have the money to buy all the olive presses in the region.

    Instead, he paid a deposit to secure the use of all the region's olive presses - or he bought a call option on olive presses as the underlying asset. This gave Thales the right, but not the obligation, to use these olive presses at harvest time, or to sell the options onto other people to make a profit. This also secured income for the owners of the olive presses, as Thales had to pay a deposit for their use regardless of how big the harvest was.

    As predicted, the harvest was abundant and Thales was able to sell on the rights to use all of the olive presses to those who needed them, making a profit as demand outgrew supply.

    Tulip mania of 1636

    Tulips were imported into Holland from Turkey, making Holland a symbol of affluence and beauty in the 17th century. Due to their colours and the fact that it took seven years to grow them, Tulips became very popular.

    With tulip prices climbing daily, Dutch dealers started trading tulip bulb options so that producers could own the rights to buying tulip bulbs at a predetermined price - tulip call options. They started using options to hedge the risk of further price increases, but this soon turned into a speculative frenzy. Prices skyrocketed between the end of 1636 to February 1637, until tulip bulbs were selling for over ten times the annual income of skilled craftsmen.

    In February of 1637 the bubble burst, and within months tulips were selling for a hundredth of their peak prices, making everyone's tulip options worthless.

    Options trading in London - 18th and 19th centuries

    Put and call options first became well-known trading instruments in the 1690s in London, when they were given an organised market. However, investment was low as investors feared the speculative nature of options, resulting in so much opposition that options trading was declared illegal in 1733.

    Options trading in London was illegal until 1860.

    Options trading in the US - 1872

    Russell Sage introduced calls and privileges (put options) to Wall Street in 1872. These options were over-the-counter and were offered by specialised dealers. Their exercise price was fixed at a rounded-off market price on the day or week that the option was bought, and the expiry date was generally three months after purchase.

    The pricing system was based on what sellers thought was reasonable, resulting in an inefficient options market. Options continued to trade in an unregulated manner until 1973.

    Options trading in the 20th century

    In 1973 the Chicago Board of Exchange (CBOE) and the Options Clearing Corporation (OCC) were created, resulting in the standardisation of publicly-traded stock options. This was the first time that the general public was able to trade call options under the OCC's performance guarantees, and is still how exchange-traded options are traded today. In 1977, the CBOE introduced put options to the market as well.

    Modern uses of options

    In modern times, options are available in our everyday lives, as well as in the options market. In real estate, call options are used to assemble large parcels of land from separate owners, usually if a developer wants to develop a number of adjacent plots.

    In the film industry, producers can buy the right to dramatise a book or script, but they do not have the obligation.

    In banking, credit cards give owners the right, but not the obligation, to borrow a certain amount of money over a certain period, while mortgage holders have the option to repay their loans early.

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