Moneyness of an Option
One of the important concepts in options trading is the moneyness of the option. The moneyness represents the relationship between the price of the underlying and the strike price of the option.
An option can be in-the-money, at-the money, or out-of-the-money.
Moneyness of a Call Option
An option is said to be in-the-money, when it produces more cash in flow than outflow.
In case of a call option, the option will be in-the-money if it's strike price is less than the underlying's spot price. For example, if a call option has a strike price of $20, while the underlying is currently selling at $25, then the call option holder can exercise the option and pay only $20 for a $25 worth of stock.
The same call option would be at-the-money if both the strike price and the underlying stock price are the same, i.e., no profit/no loss.
If the call option's strike price was $20, but the underlying was currently selling at $15, there is no benefit in exercising the option, and the holder is better was buying the stock directly from the market. In this situation, the option will be said to be out-of-the-money.
Moneyness of a Put Option
In case of a put option, the option will be in-the-money if the underlying's price is below the option's strike price. So, if the put option's strike price is $20, and the underlying's spot price is $15, then the option is in-the-money. This is because the put option holder can exercise the put option to sell the underlying at $20, which is actually worth just $15 in the market.
Similarly, a put option will be out-of-the money if the underlying price is higher than strike price, because in this case the option holder will earn more if he puts (sells) the bond directly in the market, rather than exercising the option.
In both the cases, an at-the-money option can be looked at as an out-of-the-money option because exercising it does not earn any money for the option holder.
It is not necessary that an in-the-money option is always exercised. However, an out-of-the money option is never exercised.