6_FuturesOptions_update.pdf

# Payoff from call f t k l payoff from put k f t where

• Notes
• 49

This preview shows pages 26–36. Sign up to view the full content.

Payoff from call = F t K ; l Payoff from put = K F t ; where F t is futures price at time t T, when the option is exercised. 26

This preview has intentionally blurred sections. Sign up to view the full version.

Fin330 27 Recall that the strike price is \$0.0095/Yen. Case 2 b): Example with the CME December 2016 Japanese Yen call
Case 2 b): Example with the CME December 2016 Japanese Yen call l Suppose the price of the underlying futures contract rises to \$0.0109710/Yen (column “+20%” in the previous slide). l Suppose the investor closes out the position immediately after the option is exercised. l Then investor’s profit is (neglecting the time value of money and the commission): (0.0109710 – 0.0095) x 12,500,000 = \$18,212.5 Fin330 28

This preview has intentionally blurred sections. Sign up to view the full version.

Numerical example for case 2 b) l On April 1st, investor buys a July call option on gold futures with a strike of K=\$1,800 per ounce. l The option premium is \$20 per ounce. l One contract is on 100 ounces. l Investor exercises the option on May 1st, when the futures price is F=\$1,840 per ounce. l The investor immediately closes out the long position. l The annual (cont. comp.) interest rate is 0.5%. l How large is investor’s profit as of May1st? Fin330 29
l The buyer of the option: l pays the premium \$20*100 = \$2,000 in April; l receives a payment in May: ( F K)*100=(1,840 – 1,800)*100=\$4,000 l As of May 1st, investor’s profit is: 4,000 – 2,000e 0.005 x(1/12) = \$1,999.17 Fin330 30 Numerical example for case 2 b)

This preview has intentionally blurred sections. Sign up to view the full version.

Case 3: Liquidating the option before maturity l When an option is liquidated , no position is acquired in the underlying futures contract. l Liquidating an option prior to its expiration in the same marketplace, where it was bought, is the most frequent method of realizing option profits. l Note that there is no guarantee that there will be an active market for the option at time t ! Fin330 31
Example for case 3 l On April 1 st , an investor buys a call option on a sugar futures contract. The premium cost is \$950. l On May 1 st , the option has a premium of \$1,250. The investor liquidates his position in the option on May 1 st . l The annual (cont. comp.) interest rate is 0.5%. l How large is investor’s profit as of May1st? l Answer: 1,250 – 950 e 0.005 x(1/12) = \$299.6 Fin330 32

This preview has intentionally blurred sections. Sign up to view the full version.

Overview 1. Basics 2. Settlement procedures 3. Option premium 4. Valuation using binomial trees 5. Valuation using Black’s model Fin330 33
“Moneyness” of a futures option l An option is in-the-money if it is profitable to exercise: l A call option is in-the-money at time t T if the option exercise price is below the underlying futures price: F t > K . l A put option is in-the-money if the option exercise price is above the underlying futures price: F t <K . l Option’s intrinsic value at time t = the maximum of zero and the value the option would have if it were exercised immediately. Fin330 34

This preview has intentionally blurred sections. Sign up to view the full version.

“Moneyness” of a futures option l An option is out-of-the-money if it is not profitable to exercise: l For a call option: K>F t . l For a put option: K<F t .
This is the end of the preview. Sign up to access the rest of the document.

{[ snackBarMessage ]}

### What students are saying

• As a current student on this bumpy collegiate pathway, I stumbled upon Course Hero, where I can find study resources for nearly all my courses, get online help from tutors 24/7, and even share my old projects, papers, and lecture notes with other students.

Kiran Temple University Fox School of Business ‘17, Course Hero Intern

• I cannot even describe how much Course Hero helped me this summer. It’s truly become something I can always rely on and help me. In the end, I was not only able to survive summer classes, but I was able to thrive thanks to Course Hero.

Dana University of Pennsylvania ‘17, Course Hero Intern

• The ability to access any university’s resources through Course Hero proved invaluable in my case. I was behind on Tulane coursework and actually used UCLA’s materials to help me move forward and get everything together on time.

Jill Tulane University ‘16, Course Hero Intern