Question

5.   XYZ plc has been offered the following quotes for options on the dollar given a   current market price of 60 pence:     Strike price of dollar in pence   Call premium   Put premium     1 year   1 year   62   6.9   3.0   64   5.9   3.8   66   4.8   4.5   67   4.5   5.1

a.   Calculate the net payout from a purchased call option at a strike price of   67 pence for the following possible maturity prices 55p, 60p,65p,70p,75p.                            

  b.   Calculate the net payout for a written put option at 66p for the following possible   maturity prices: 55p, 60p,65p,70p,75p.    
(6   marks)
   a.   Calculate the total cost of the dollar if the MNC were to implement part a and part   b of this question for the following maturity prices: 55p, 60p,65p,70p,75p .               b.   Outline the advantages and disadvantages of purchasing a call at 67p and   writing a put at 66p for a MNC importing from the US.   

Answer 1

.aPayoff Long (Buy)Call Option:

Strike Price =X

Price at expiration =S

Pay off:

Max((S-X),0)

S	X	A=Max((S-X),0)	B	C=B+A
Price at Expiration(pence)	Strike Price(Pence)	Payoff (Long Call)(Pence)	Premium(pence)	Net Payout(p)
55	67	0	-4.5	-4.5
60	67	0	-4.5	-4.5
65	67	0	-4.5	-4.5
70	67	3	-4.5	-1.5
75	67	8	-4.5	3.5

b. Payoff Short (Write)PUT Option:

Strike Price =X

Price at expiration =S

Pay off:

Min.((S-X),0)

S	X	A=Min((S-X),0)	B	C=B+A
Price at Expiration(pence)	Strike Price(Pence)	Payoff (Short PUT)(Pence)	Premium(pence)	Net Payout(p)
55	66	-11	4.5	-6.5
60	66	-6	4.5	-1.5
65	66	-1	4.5	3.5
70	66	0	4.5	4.5
75	66	0	4.5	4.5

Total Cost of dollar if strategy of Long Call at strike 67 p and Short Put at Strike 66p is implemented:

S	A	B	C	D=A+B+C	E=S-D
Price at Expiration(pence)	Payoff Long Call(p)	Pay off(Short PUT)(p)	Net Premium(p)	Net Gain/(Loss)(p)	Total Cost of Dollar(p)
55	0	-11	0	-11	66
60	0	-6	0	-6	66
65	0	-1	0	-1	66
70	3	0	0	3	67
75	8	0	0	8	67

Advantage :

Cost of Dollar does not have volatility with the volatility of exchange rate

Disadvantage:

Does not get the advantage of falling exchange rate