week 8 - Derivatives and Risk Weeks 8 OPTIONs Click to edit...

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Click to edit Master subtitle style Derivatives and Risk Weeks 8 OPTIONs
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Introduction l In today’s lecture, we will discuss the basics of OPTIONs l We will also compare the profiles between options and forwards/futures
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Options Contract l An option gives the holder the right l but not the obligation l to buy or sell an asset at a specified price on or before a predetermined date in the future l Call option (for purchaser) is the right to buy l Put option (for purchaser) is the right to sell l The option buyer is the holder and has a long position in the option l The seller or writer has a short position (and the risk) l The option buyer pays option premium, the seller collect premium.
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Assets Underlying Exchange-Traded Options l Stocks & Stock Indices l Interest Rates l Foreign Currency l Commodity
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Options terminology l Option premium l Price paid for the option (depend on relative strike price, volatility and time to expiry) l Exercise l the act of paying the strike price to buy the asset l Conversion of the option into the underlying asset l Expiration l the date by which the option must be exercised or become worthless l Exercise (strike) price l Guaranteed price chosen by the client at which the underlying asset can be bought or sold l usually close to prevailing current or spot rate
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Options terminology l Exercise style: specifies when the option can be exercised l European-style: can be exercised only at expiration date l American-style: can be exercised at any time before expiration date l Bermudan-style: Can be exercised during specified periods l Asian-options: options linked to the average price over a specified period l In, Out or At the money l Expresses relationship between strike price and prevailing sport rate l Intrinsic value l Difference between the strike price and the current market value rate
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In, out or at the money l Assume the current goal price is £1200 per oz l A call option with the right to buy gold at $1200 in some future time l At the money (ATM): strike price = current price l Intrinsic value = current price - strike price=0 l A call option with the right to buy gold at £1100 in some future time l In the money (ITM): strike price < current price l Intrinsic value >0 l A call option with the right to buy gold at £1300 in some future time l Out of the money (OTM): strike price > current price
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Individual equity option contract specification Unit of trading One option normally equals rights over 1000 shares Expire Months January Cycle (J): means the 3 NEAREST EXPIRE MONTHS FROM Jan, Apr, Jul, Oct cycle February Cycle (F): means the 3 nearest expiry months from Feb, May, Aug, Nov cycle
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