1. Trading Strategies Involving Options
Chapter 11
Fundamentals of Futures and Options Markets, 9th Ed, Ch 11, Copyright © John C. Hull 2016

2. Strategies to be Considered
Bond plus option to create principal protected note
Stock plus option
Two or more options of the same type (a spread)
Two or more options of different types (a combination)
Fundamentals of Futures and Options Markets, 9th Ed, Ch 11, Copyright © John C. Hull 2016

3. Principal Protected Note
Allows investor to take a risky position without risking any principal
Example: $1000 instrument consisting of
3-year zero-coupon bond with principal of $1000
3-year at-the-money call option on a stock portfolio currently worth $1000
Fundamentals of Futures and Options Markets, 9th Ed, Ch 11, Copyright © John C. Hull 2016

4. Principal Protected Notes continued
Viability depends on
Level of dividends
Level of interest rates
Volatility of the portfolio
Variations on standard product
Out of the money strike price
Caps on investor return
Knock outs, averaging features, etc
Fundamentals of Futures and Options Markets, 9th Ed, Ch 11, Copyright © John C. Hull 2016

5. Positions in an Option & the Underlying (Figure 11.1, page 252)
Profit
Profit K K ST ST
(a)
(b)
Profit
Profit K ST K ST
(c)
(d)
Fundamentals of Futures and Options Markets, 9th Ed, Ch 11, Copyright © John C. Hull 2016

6. Bull Spread Using Calls (Figure 11.2, page 253)
Profit ST K1 K2
Fundamentals of Futures and Options Markets, 9th Ed, Ch 11, Copyright © John C. Hull 2016

7. Bull Spread Using Puts Figure 11.3, page 254K1 K2
Profit ST
Fundamentals of Futures and Options Markets, 9th Ed, Ch 11, Copyright © John C. Hull 2016

8. Bear Spread Using Puts Figure 11.4, page 255K1 K2
Profit ST
Fundamentals of Futures and Options Markets, 9th Ed, Ch 11, Copyright © John C. Hull 2016

9. Bear Spread Using Calls Figure 11.5, page 256
Profit K1 K2 ST
Fundamentals of Futures and Options Markets, 9th Ed, Ch 11, Copyright © John C. Hull 2016

10. Box Spread A combination of a bull call spread and a bear put spread
If all options are European a box spread is worth the present value of the difference between the strike prices
If they are American this is not necessarily so (see Business Snapshot 11.1)
Fundamentals of Futures and Options Markets, 9th Ed, Ch 11, Copyright © John C. Hull 2016

11. Butterfly Spread Using Calls Figure 11.6, page 258
Profit K1 K2 K3 ST
Fundamentals of Futures and Options Markets, 9th Ed, Ch 11, Copyright © John C. Hull 2016

12. Butterfly Spread Using Puts Figure 11.7, page 259
Profit K1 K2 K3 ST
Fundamentals of Futures and Options Markets, 9th Ed, Ch 11, Copyright © John C. Hull 2016

13. Calendar Spread Using Calls Figure 11.8, page 260
Profit ST K
Fundamentals of Futures and Options Markets, 9th Ed, Ch 11, Copyright © John C. Hull 2016

14. Calendar Spread Using Puts Figure 11.9, page 260
Profit ST K
Fundamentals of Futures and Options Markets, 9th Ed, Ch 11, Copyright © John C. Hull 2016

15. A Straddle Combination Figure 11.10, page 261
Profit K ST
Fundamentals of Futures and Options Markets, 9th Ed, Ch 11, Copyright © John C. Hull 2016

16. Strip & Strap Figure 11.11, page 262
Profit
Profit K ST K ST
Strip
Strap
Fundamentals of Futures and Options Markets, 9th Ed, Ch 11, Copyright © John C. Hull 2016

17. A Strangle Combination Figure 11.12, page 263
Profit K1 K2 ST
Fundamentals of Futures and Options Markets, 9th Ed, Ch 11, Copyright © John C. Hull 2016

18. Other Payoff Patterns
When the strike prices are close together a butterfly spread provides a payoff consisting of a small “spike”
If options with all strike prices were available any payoff pattern could (at least approximately) be created by combining the spikes obtained from different butterfly spreads
Fundamentals of Futures and Options Markets, 9th Ed, Ch 11, Copyright © John C. Hull 2016