Download An introduction to options trading by Frans de Weert PDF

By Frans de Weert

Explaining the speculation and perform of thoughts from scratch, this booklet specializes in the sensible aspect of recommendations buying and selling, and bargains with hedging of strategies and the way innovations investors generate profits by means of doing so.  universal phrases in alternative concept are defined and readers are proven how they relate to profit.  The ebook provides the mandatory instruments to house recommendations in perform and it comprises mathematical formulae to raise causes from a superficial level.  through the ebook real-life examples will illustrate why traders use choice constructions to fulfill their wishes.

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Extra resources for An introduction to options trading

Sample text

3 Consider an investor with a put option on Royal Dutch/Shell with a strike price of $40 and an expiration date in 1 year. Now suppose that after half a year Royal Dutch/Shell is virtually worth nothing (very extreme situation). By exercising the put option, the investor makes an immediate gain of $40. If the investor waits, the gain could be less than $40 but it could never be more than $40, since stock prices cannot drop below 0. This already shows that there can be a point in exercising an American put option on a non-dividend paying stock early.

Suppose that ST is the price of the underlying stock at maturity, and K is the strike price of the option. The payoff from a long position in a European call option is: maxðST À K; 0Þ This formula is in compliance with the fact that the option will be exercised if ST > K, and will not be exercised if ST K. The payoff from a short position in a European call is: À maxðST À K; 0Þ This is again logical, since whatever the holder of a long position wins by exercising, the holder of a short position loses.

So, it will be proved in two steps. First, it will be assumed that ct À pt > St À K eÀrðTÀtÞ , and showing this leads to an arbitrage possibility. Then, it will be assumed that ct À pt < St À K eÀrðTÀtÞ , and showing this also leads to an arbitrage possibility. The fact that both assumptions lead to an arbitrage possibility is a contradiction, because for the put–call parity it was assumed there was absence of arbitrage: 1. Suppose ct À pt > St À K eÀrðTÀtÞ , that is: K þ erðTÀtÞ ðct À pt À St Þ > 0 ð1:2Þ By entering in the following portfolio at time t, a profit will always be made at maturity, T.

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