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Lecture Financial markets and institutions - Chapter 14: Options markets

In this chapter, the following content will be discussed: Background on options, speculating with stock options, determinants of stock option premiums, explaining changes in option premiums, hedging with stock options, using options to measure a stock’s risk. | Chapter 14 Options Markets Financial Markets and Institutions, 7e, Jeff Madura Copyright ©2006 by South-Western, a division of Thomson Learning. All rights reserved. Chapter Outline Background on options Speculating with stock options Determinants of stock option premiums Explaining changes in option premiums Hedging with stock options Using options to measure a stock’s risk Chapter Outline (cont’d) Options on ETFs and stock indexes Options on futures contracts Hedging with options on futures Institutional use of options markets Globalization of options markets Background on Options A call option grants the owner the right to purchase a specified financial instrument for a specified price (exercise or strike price) within a specified period of time Grants the right, but not the obligation, to purchase the specified investment The writer of a call option is obligated to provide the instrument at the price specified by the option contract if the owner exercises the option A call option is: In the money when the market price of the underlying security exceeds the strike price At the money when the market price is equal to the strike price Out of the money when the market price is below the strike price Background on Options (cont’d) A put option grants the owner the right to sell a specified financial instrument for a specified price within a specified period of time Grants the right, but not the obligation, to sell the specified investment A put option is: In the money when the market price of the underlying security is below the strike price At the money when the market price is equal to the strike price Out of the money when the market price is above the strike price Background on Options (cont’d) Call and put options specify 100 shares for stocks Premiums paid for call and put options are determined through open outcry on the exchange floor Participants can close out their option positions by taking an offsetting position The gain or loss is . | Chapter 14 Options Markets Financial Markets and Institutions, 7e, Jeff Madura Copyright ©2006 by South-Western, a division of Thomson Learning. All rights reserved. Chapter Outline Background on options Speculating with stock options Determinants of stock option premiums Explaining changes in option premiums Hedging with stock options Using options to measure a stock’s risk Chapter Outline (cont’d) Options on ETFs and stock indexes Options on futures contracts Hedging with options on futures Institutional use of options markets Globalization of options markets Background on Options A call option grants the owner the right to purchase a specified financial instrument for a specified price (exercise or strike price) within a specified period of time Grants the right, but not the obligation, to purchase the specified investment The writer of a call option is obligated to provide the instrument at the price specified by the option contract if the owner exercises the option A call