168  •   The Intelligent Option Investor
1. As shown and mentioned earlier, when using an option, payment 
on the principal amount of $65 in this case is conditional and com-
pletely discretionary. For an option, the interest payment is made 
up front and is a sunk cost.
2. Because repayment is discretionary in the case of an option, you 
do not have any financial risk over and above the prepayment of 
interest in the form of an option premium. Repayment of a con-
ventional loan is mandatory, so you have a large financial risk if 
you cannot repay the principal at maturity in this case.
Regarding the first difference, not only is the loan conditional 
and discretionary, the loan also has value and can be transferred to 
another for a profit. What I mean is this: if the stock rises quickly, the 
value of that option in the open market will increase, and rather than 
holding the “loan” to maturity, you can simply sell it with your profits 
offsetting the original cost of the prepaid interest plus giving you a 
nice profit. 
Regarding the second difference, consider this: if you are using bor -
rowed money to invest and your stock drops heavily, the broker will make 
a margin call (i.e., ask you to deposit more capital into the account), and 
if you cannot make the margin call, the broker will liquidate the position 
(most brokers shoot first and ask questions later, simply closing out the 
position and selling other assets to cover the loss at the first sign margin 
requirements will not be met). If this happens, you can be 100 percent 
correct on your valuation long term but still fail to benefit economically 
because the position has been forcibly closed. In the case of options, the 
underlying stock can lose 20 percent in a single day, and the owner of a 
call option will never receive a margin call. The flip side of this benefit 
is that although you are not at risk of losing a position to a margin call, 
option ownership does not guarantee that you will receive an economic 
reward either. 
For example, if the option mentioned in the preceding example ex-
pires in two years when the stock is trading at $64.99 and the stock has paid 
$2.10 in dividends over the previous two years, the option holder ends up 
with neither the stock nor the dividend check.