What are stock options?

Stock options are financial contracts that give the holder the right, but not the obligation, to buy or sell a company's shares at a predetermined price, also known as the exercise price, within a specific time frame. This flexibility is key; investors can choose to exercise their options if it benefits them, which often occurs when the market price of the stock exceeds the exercise price for call options or falls below it for put options.

The primary purpose of stock options is to provide an incentive for employees and stakeholders, aligning their interests with the company's performance. If the company's stock price appreciates, employees can purchase shares at a lower price, potentially leading to significant profits. This mechanism incentivizes them to work towards enhancing the company's success, as they stand to gain directly from the stock’s performance.

On the other hand, permanent ownership of a company's shares reflects direct investment in the company, which differs from the leverage and conditional nature of stock options. Guaranteed profits from an investment imply a sure return, which isn't characteristic of stock options, as their profitability is contingent on market movements. Tax deductions for stock purchases are a tax-related benefit and not a definition of a stock option, which strictly involves the contractual right to buy or sell shares.