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Financial Derivatives: Option's Market Essay

785 words - 4 pages

1) Explain what options are.
2) Talk about different option markets.
3) Talk about American market.
4) Talk about European market.
5) Explain major differences.

1) An option is a financial derivative that represents a contract sold by one party (option writer) to another party (option holder). The contract offers the buyer the right, but not the obligation, to buy (call) or sell (put) a security or other financial asset at an agreed-upon price (the strike price) during a certain period of time or on a specific date (exercise date).

Options are extremely versatile securities that can be used in many different ways. Traders use options to speculate, which is a relatively risky ...view middle of the document...

This is true until expiry, which means there is no economic incentive to exercising your option early on a non-dividend paying stock.

For a dividend paying stock, a call option with American terms CAN be higher than a similar European style call option
For a dividend-paying stock, it’s a bit more tricky. If you exercise your call option before the ex-dividend date you will receive the dividend payment. Now you have to figure out if that dividend payment (plus interest) is greater or less than the interest earned at the risk free rate on the cash NOT used to purchase the stock’s shares if you didn’t exercise your option. If the dividend payment is higher, then the American style call option is worth more since you could indeed exercise the call option and claim the dividend.

After all this theory i would like to give an example about the use of options.

The main idea behind an option can be found in many situations apart from the stock market. For example, lets say you were willing to by some lands. However you dont have the money right now, and you will not be able to...

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