Lec 16 Options on Currency Futures Lec 16: Options on Futures Contracts (Hull, Ch.16) Formal Language: A Call option on a futures is the right to establish (at zero cost) a long position in a futures contract with futures price equal to the option’s K. The call writer is obligated to take the short side of the futures contract. The new futures contract is marked to market daily. Say WHAT? Lec 16 Options on Currency Futures dfdf

Lec 16 Options on Currency Futures Example 1: Call Option on a Currency Futures (In English) Buy a European Dec Call on one Euro Futures contract The size of the futures contract is Z€ = €62,500 Exercise Price: K = FT = 0.50 $/€ ➟ K= €62,500 (0.50 $/€) = $31,250 Cash Flow Analysis at T = Expiration. Possible scenarios: Futures FX RateT $Price of €62,500 Exercise? Value of { +CT } ➀ 0.30 $/€ $18,750 No ☹ ➁ 0.40 $/€ 25,000 No ➂ 0.50 $/€ 31,250 Yes/No ➃ 0.60 $/€ 37,500 Yes ☺ $6,250 ➄ 0.70 $/€ 43,750 $12,500 Lec 16 Options on Currency Futures dfdf

Lec 16 Options on Currency Futures Example 2: Put Option on a Currency Futures (In English) Buy a European Dec Put on one Euro Futures contract The size of the futures contract is Z€ = €62,500 Exercise Price: K = FT = 0.50 $/€ ➟ K= €62,500 (0.50 $/€) = $31,250 Cash Flow Analysis at T = Expiration. Possible scenarios: Futures FX RateT $Price of €62,500 Exercise? Value of { +PT } ➀ 0.30 $/€ $18,750 Yes $12,500 ➁ 0.40 $/€ 25,000 $6,250 ➂ 0.50 $/€ 31,250 Yes/No ➃ 0.60 $/€ 37,500 No ➄ 0.70 $/€ 43,750 Lec 16 Options on Currency Futures dfdf

Lec 16 Options on Currency Futures BOPM for Options on Futures Contracts (p. 3) Consider a 6-months European Call for one Futures contract on one share of IBM: ▸ K = $50 ▸ r = 6%/year (with c.c. ) ▸ Size of the futures contract is for 1 share of IBM ▸ The current futures price ( F0 ) is $50, and in 6 months it will be either $56 or $46 Futures Prices Futures Values Call Values t=0 T=1 t=0 T=1 t=0 T=1 56 (FU) +6 $6 F0P= $50 F0V= 0 C0= ?? 46 (FD) -4 0 To find the call value set 6 Δ + B e0.06/2 = 6 -4 Δ + B e0.06/2 = 0 ➟ Δ*= 0.6 and B*=$2.33 Thus, at time 0, C0 = Δ F0V +B = 0.6 (0 ) +2.33 = $2.33 Lec 16 Options on Currency Futures dfdf

Lec 16 Options on Currency Futures Thank You (A Favara)