Topic 5: Options: basic features and risk management Flashcards
(23 cards)
What is an option?
A financial derivative whose value depends on an underlying asset.
What right does the buyer of an option have?
The right, but not the obligation, to buy or sell the underlying asset at a specified price by a specific date.
What obligation does the seller of an option have?
The obligation to fulfill the transaction if the option is exercised.
What is a call option?
The right to buy an asset at a specified strike price.
What is a put option?
The right to sell an asset at a specified strike price.
What is the strike (exercise) price?
The agreed price at which the asset can be bought or sold.
What is the option premium?
The price paid to purchase the option.
What is the expiration/expiry date of an option?
The date when the option contract expires.
What is an American option?
An option that can be exercised anytime up to and including the expiration date.
What is a European option?
An option that can only be exercised on the expiration date.
Name different types of options.
Equity options, bond options, index options, FX options, interest rate options.
Where are options commonly traded?
On organized public exchanges like the Chicago Board Options Exchange (CBOE).
What role does the Options Clearing Corporation (OCC) play?
Acts as a clearing house to reduce counterparty risk and ensure settlement.
What happens if you buy a call option and the stock price rises above the strike price plus premium?
You make a profit.
What is the break-even price for a call option buyer?
Strike price plus the option premium.
When does a put option buyer profit?
When the stock price falls below the strike price minus the premium.
What happens when selling a call option if the stock price remains below the strike price?
The seller keeps the option premium as profit.
What is the break-even point for a call option seller?
Strike price plus premium received.
What is a long straddle strategy?
Buying both a call and a put option with the same strike price and expiration to profit from large price movements.
When is a long straddle strategy useful?
When expecting high volatility but uncertain about the direction.
What factors increase the value of a call option?
Higher stock price, lower exercise price, more time to expiration, higher volatility.
What is the Black-Scholes formula?
A model for pricing European-style options based on factors like stock price, strike price, time to maturity, risk-free rate, and volatility.
What is implied volatility?
Volatility implied by the market price of an option.
