What Is Premium?

By Samantha Baltodano

TL;DR:

In finance, premium can refer to the amount by which a security trades above its face value, the amount paid for an option above its intrinsic value, or various types of regular payments or fees for financial products or services. The specific meaning of premium depends on the context in which it is used.

What Is Premium?

In finance, the term "premium" can have several different meanings depending on the context.

One common meaning of premium is the amount by which a bond or other security trades above its face value. 

For example, if a bond has a face value of $1,000 and it is currently trading for $1,100, the premium on the bond is $100. This can occur when investors are willing to pay more for a security due to perceived risks or other factors.

Another meaning of premium is the amount that an investor pays for an option above its intrinsic value. 

An option is a financial contract that gives the holder the right, but not the obligation, to buy or sell a security at a predetermined price on or before a certain date. The intrinsic value of an option is the difference between the strike price (the predetermined price at which the option can be exercised) and the market price of the underlying security.

 If the market price of the underlying security is above the strike price, the option has intrinsic value. The difference between the option's price and its intrinsic value is the premium.

There are also several types of premiums that are commonly used in finance. For example:

• Insurance premiums: These are the regular payments that an individual or business makes to an insurance company in exchange for coverage.
• Premium bonds: These are a type of savings bond issued by the UK government in which the interest earned is determined by a random draw rather than a fixed rate.
• Premium accounts: These are bank accounts or other financial products that offer additional benefits or services for a higher fee.

Summary

• In finance, premium can refer to the amount by which a security trades above its face value
• It can also refer to the amount paid for an option above its intrinsic value
• There are various types of premiums, including insurance premiums, premium bonds, and premium accounts

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