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Option value is composed of two components : Option value = Intrinsic value + time value Intrinsic value is the amount by which the option is in the money and given by the formula Max (0, S-X) Time value of option - this value depends on the time until the expiration date and the volatility of the underlying instrument's price. The time value of an option is always positive and declines exponentially with time, reaching zero at the expiration date. If the option is out of money its intrinsic value will be 0 but will still have time value of money and hence options sell higher than their exercise price.
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