A call option is said to be out of the money when the market price of the security with which it is linked is lower than the exercise price of the option. Conversely, a put option is considered to be out of the money when the market price of the security with which it is linked is higher than the exercise price of the option. In both situations, the holder of the option has no incentive to exercise the option, since doing so would result in a loss.
For example, Mr. Jones has a call option to buy shares in Newark Imports, where he has the right to buy the shares for $15 each. The current market price of the shares is $11, which means that he would incur a loss of $4 per share if he were to exercise the option and then sell the shares that he has acquired. In this case, the option is out of the money.