Lecture+21+Nov+28+2011

Lecture+21+Nov+28+2011 - FINA3104:...

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FINA 3104: Investment Analysis and Portfolio Management Lecture 21 – Options Markets Darwin Choi November 28, 2011 Recap from Last Lecture Mechanics of Futures Trading Margin and mark to market Determinants of Futures Prices Riskfree rate, Cost of carry, Storage costs Spot Futures Parity Theorem 2 f d r S F ) 1 ( 0 0
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Outline of Today’s Lecture Option Basics Option Payoffs Options as Building Blocks 3 Options Contracts (“Options”) Call option: Gives the holder the right to buy an asset for a preset (strike) price on or until a certain date. Put option: Gives the holder the right to sell an asset for a preset (strike) price on or until a certain date. The option holder has a right ( obligation) to buy or sell an asset which the option seller must honor the if it is exercised. Typical optionable assets: stocks, stock indexes, commodities 4
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Call Option Example Say you find a house selling for $200M but you think it is worth $220M. How can you profit? You could buy the house and hope for it to go up. But this involves transaction costs & risk (it might go down in value rather than up). Or, you could ask the owner to sell you an option to buy the house in a few months for $210M. Because the seller would then have to reserve the house for you, you would have to pay a premium. 5 Call Option Example Suppose a week goes by and you find someone who is willing to pay $220M for this house.
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Lecture+21+Nov+28+2011 - FINA3104:...

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