1. Chapter 11 Trading Strategies Involving Options
Options, Futures, and Other Derivatives, 8th Edition, Copyright © John C. Hull 2012

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)
Options, Futures, and Other Derivatives, 8th Edition, Copyright © John C. Hull 2012

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
Options, Futures, and Other Derivatives, 8th Edition, Copyright © John C. Hull 2012

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
Options, Futures, and Other Derivatives, 8th Edition, Copyright © John C. Hull 2012

5. Positions in an Option & the Underlying (Figure 11.1, page 237)
Profit
Profit K K ST ST
(a)
(b)
Profit
Profit K ST K ST
(c)
(d)
Options, Futures, and Other Derivatives, 8th Edition, Copyright © John C. Hull 2012

6. Bull Spread Using Calls (Figure 11.2, page 238)
Profit ST K1 K2
Options, Futures, and Other Derivatives, 8th Edition, Copyright © John C. Hull 2012

7. Bull Spread Using Puts Figure 11.3, page 239K1 K2
Profit ST
Options, Futures, and Other Derivatives, 8th Edition, Copyright © John C. Hull 2012

8. Bear Spread Using Puts Figure 11.4, page 240K1 K2
Profit ST
Options, Futures, and Other Derivatives, 8th Edition, Copyright © John C. Hull 2012

9. Bear Spread Using Calls Figure 11.5, page 241
Profit K1 K2 ST
Options, Futures, and Other Derivatives, 8th Edition, Copyright © John C. Hull 2012

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)
Options, Futures, and Other Derivatives, 8th Edition, Copyright © John C. Hull 2012

11. Butterfly Spread Using Calls Figure 11.6, page 242
Profit K1 K2 K3 ST
Options, Futures, and Other Derivatives, 8th Edition, Copyright © John C. Hull 2012

12. Butterfly Spread Using Puts Figure 11.7, page 243
Profit K1 K2 K3 ST
Options, Futures, and Other Derivatives, 8th Edition, Copyright © John C. Hull 2012

13. Calendar Spread Using Calls Figure 11.8, page 245
Profit ST K
Options, Futures, and Other Derivatives, 8th Edition, Copyright © John C. Hull 2012

14. Calendar Spread Using Puts Figure 11.9, page 246
Profit ST K
Options, Futures, and Other Derivatives, 8th Edition, Copyright © John C. Hull 2012

15. A Straddle Combination Figure 11.10, page 246
Profit K ST
Options, Futures, and Other Derivatives, 8th Edition, Copyright © John C. Hull 2012

16. Strip & Strap Figure 11.11, page 248
Profit
Profit K ST K ST
Strip
Strap
Options, Futures, and Other Derivatives, 8th Edition, Copyright © John C. Hull 2012

17. A Strangle Combination Figure 11.12, page 249
Profit K1 K2 ST
Options, Futures, and Other Derivatives, 8th Edition, Copyright © John C. Hull 2012

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
Options, Futures, and Other Derivatives, 8th Edition, Copyright © John C. Hull 2012