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Running Head: Derivatives 1 Derivatives Name: College

The document summarizes information about options trading from two educational videos. It defines what options are, including calls and puts, and how they work. It also discusses key terms like strike price and premium. Examples are provided to illustrate how option prices change based on the underlying asset's price. The document concludes that one can profit from a call option if the share price increases above the strike price, but loses money if the price decreases.

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65 views3 pages

Running Head: Derivatives 1 Derivatives Name: College

The document summarizes information about options trading from two educational videos. It defines what options are, including calls and puts, and how they work. It also discusses key terms like strike price and premium. Examples are provided to illustrate how option prices change based on the underlying asset's price. The document concludes that one can profit from a call option if the share price increases above the strike price, but loses money if the price decreases.

Uploaded by

mmmugambi
Copyright
© Attribution Non-Commercial (BY-NC)
We take content rights seriously. If you suspect this is your content, claim it here.
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Download as DOC, PDF, TXT or read online on Scribd
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Running Head: Derivatives 1

Derivatives

Name:

College:

The two videos are a good resource of information on options trading. The Chicago

Board of options Exchange is the largest in the United States in options exchange and trading,

and provides education about options to investors. An option is giving the owner the right to buy

or sell an asset at a fixed price for a specified period and obligating the seller to take the opposite

side if and when the right embedded in the option is exercised by the owner (Carlin & Soskice,

2006). According to Brian Overby, the director of education at Trade king’s options are just like

insurance contracts that have been there a very long period of time. Initially options were being

traded in over counter markets. This implies that the buyer has the right to purchase the

underlying stock or index, for example XYZ January 70 call at $3.10; January is the time the

expiration time for the call. On the other hand, Puts are options to sell a stock or an index. ABC

February 35 put at $1.20. Equity options represent 100 shares of the underlying stock.

The video also gives an insight on pricing of options in the market. Strike price is the pre-

determined price at which the underlying assets will be bought or sold should the option be

exercised. Strike price in the listed options in a market place the strike prices are standardized.

- Stock priced between0-25 intervals of 2 ½

- Stocks priced between 25 -200 intervals of 5

- Stocks prices greater than 200 intervals of 10


Derivatives 2

Premium is the price paid by the buyer and received by the seller (Dutta, Zbaracki, &

Bergen, 2003). In essence, there is a lot of similarity in pricing an options contract and an

insurance contract. If the option has gone up one could sell it for a higher price than one bought

but the disadvantage is that if it has fallen you could lose your investment. Therefore to calculate

the price of an option for examples if there are 100 XYZ shares at $3.10, the option costs 100

shares * 3.10= $310. The CBOE’s website is also resourceful in the wide range of educational

material available on options exchange and trading.

Using the following stock ‘AMGN AMGEN INC Long 890 $55.97 ($1,940.20) $25.00

($1,965.20)’, assuming we have 500 shares, initially the option cost 500 * $55.97= $27,985.

When the stock price increases by 20%, the option costs $67.164* 500= $33,582, thereby a gain

of $5,597 is realized at the time of expiry. When stock price decreases by 20% at the time of

selling the option, the option costs 500*$ 44.776= $22,388, thereby a loss of $5,570 is realized.

There are various considerations that have to be made when pricing an options contract.

These include volatility of the contract, the expiry date of the contract, strike price, percentage of

volatility, and options value. From the above calculations, it is evident to state that in order to

make a gain when selling a call option, one should consider the strike price of the share at the

market and ensure that the price of the share has increased in order to make a profit on the call

option. From the above, when the share price increased by 20%, i.e. $67.164, the value of the

call option went up and a profit was made. Likewise when the share price went down by 20% to

$44.776, a loss was experienced when the option was exercised.


Derivatives 3

References

Carlin, W., & Soskice, D. (2006). Capital markets in emerging economies. New York: Oxford

University Press.

Dutta, S., Zbaracki, M., & Bergen, M. (2003). Pricing process as a capability: A resourceful

perspective. Strategic management Journal , 24 (7), 615-630.

Muraga, D. (1994). The state of information in emerging stock markets. Nairobi: Bookwise.

Sloman, J., & Hinde, K. (2007). Economics for business (4 ed.). Edinburgh Gate: Person

Education Limited.

Ohmae, K. (1990). The borderless world, power and strategy in a global market place. London:

Harper Collins Publishers

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