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Options Strategies Theory and Application in Bloomberg

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Options Strategies Theory and Application in Bloomberg OptionsOptions StrategiesStrategies TheoryTheory && ApplicationApplication ByBy Abukar Abukar M M Ali Ali MarchMarch 20042004 Option Strategies Overview OptionsOptions strategiesstrategies areare applicableapplicable toto variousvarious assetasset classesclasses andand forfor OTCOTC asas wellwell asas tradedtraded Options.Options. TheThe mainmain motivesmotives toto useuse optionsoptions areare 1. Take a directional view of the market - Reduce exposure to to risk (partial or full), - Increase exposure to risk. 2. Enhance your income by writing your income and collecting the premium for instance. 3. Take of view on the volatility of the underlying 4. Arbitrage i.e take advantage on mispriced of options or between the option and the underlying. YieldCurve.com Focus for today ThereThere areare 33 mainmain stylestyle ofof OptionsOptions strategies:strategies: StrategiesStrategies involvinginvolving oneone stockstock andand oneone OptionOption SpreadsSpreads strategiesstrategies CombinationsCombinations WeWe willwill fellowfellow thisthis structurestructure forfor thethe seminarseminar YieldCurve.com I. Strategies involving one stock and one Option ThereThere areare variousvarious typetype ofof strategiesstrategies thatthat cancan bebe undertaken,undertaken, forfor instanceinstance coveredcovered calls.calls. YieldCurve.com Covered Call AA coveredcovered callcall TheThe longlong positionposition willwill covercover thethe investorinvestor againstagainst aa sharpsharp riserise inin thethe stockstock price.price. AA coveredcovered callcall isis composedcomposed ofof :: 11 longlong positionposition inin thethe stockstock 11 shortshort positionposition inin aa callcall YieldCurve.com Pay off for a covered call Long Stock ∏ ST Equivalent to writing a put Min (ST - K ,0) Short Call Stock price -Max (ST - K ,0) or Min (K –ST,0 ) YieldCurve.com II. Spreads SpreadsSpreads areare strategiesstrategies involvinginvolving takingtaking twotwo oror moremore optionsoptions ofof thethe samesame typestypes i.ei.e atat leastleast 22 callscalls oror 22 putsputs toto buildbuild upup youryour strategy.strategy. TheThe mostmost popularpopular strategiesstrategies areare BullBull spreadspread BearBear spreadspread ButterflyButterfly CalendarCalendar YieldCurve.com Call Bull spread Vertical spreads are used in a moderately bullish market to lower your premium and maximise your upside potential, which would be equal to the difference between the two strikes as long as the underlying is superior to the higher strike. Maximum loss would be the debit when your underlying is lower the lower strike. This strategy is composed of : ¾ Buy 1 call Option with a strike K1 ¾ Sell 1 call Option with strike K2 where K2 > K1 YieldCurve.com Pay off for a Call Bull Spread ∏ Max (ST - K ,0) Short Call k1 k2 Stock price -Max (ST - K ,0) or Long Call Min (K –ST,0 ) YieldCurve.com Explanation of Pay off Price PO from Long PO from Short Total Pay off call Call S -k K -S K -K ST > k2 T 1 2 T 2 1 S -k S -k K1 <ST < k2 T 1 0 T 1 ST < k1 0 0 0 YieldCurve.com Call Bull spread on Bloomberg Underlying Vodafone underlying at 95.75 Options Long VOD LN 12 C80 Short VOD LN 12 C110 Premium (20.25 –3) * 1000 = 17250 Max Profit Limited between a underlying of 80 and 110 YieldCurve.com Max Loss The premium so 17250 Bear Spread ByBy contrastcontrast aa BullBull spreadspread isis wherewhere thethe investorinvestor isis hopinghoping thatthat thethe stockstock priceprice willwill gogo up,up, inin aa bearbear spreadspread thethe investorinvestor isis hopinghoping thatthat thethe stockstock priceprice willwill gogo donedone.. AA BearBear SpreadSpread isis composedcomposed ofof 22 optionsoptions onon wewe buybuy andand oneone wewe soldsold wherewhere thethe oneone wewe buybuy asas aa strikestrike superiorsuperior toto thethe oneone wewe sellsell soso wewe havehave anan initialinitial cashcash flowflow YieldCurve.com Pay off for a Bear call spread ∏ Short Call Stock price Long Call YieldCurve.com Pay off for a Bear Call spread Price PO from PO from Total Pay off Long call Short Call S -k K -S K -K ST > k2 T 2 1 T 1 2 0K-S -(S -k ) K1 <ST < k2 1 T T 1 ST < k1 0 0 0 YieldCurve.com Call Bear spread using Bloomberg YieldCurve.com Butterfly Spread AA butterflybutterfly spreadspread involveinvolve takingtaking 33 differentdifferent strikesstrikes prices.prices. IfIf youyou buybuy aa callcall atat K1 whichwhich isis lowlow comparedcompared toto K3.. ThenThen youyou sellsell 22 callscalls atat inin betweenbetween thethe 22 previousprevious strikes,strikes, K2.. ThisThis strategystrategy wouldwould leadlead toto aa profitprofit ifif youryour underlyingunderlying staystay closeclose toto thethe mediummedium strikestrike,, K2 andand thenthen toto aa smallsmall lossloss ifif itit movesmoves inin anyany ofof thethe twotwo overover directions.directions. YieldCurve.com Graphical Pay off for Butterfly ∏ 2 Short Calls Stock price -Max (ST - K ,0) or Min (K –ST,0 ) YieldCurve.com Pay off Butterfly Price PO from PO from PO from Total Pay off Long call 1 Short Call 2 Short Call 2 Pay off ST < k1 0 0 0 0 S -k S -k K1 <ST < k2 T 1 0 0 T 1 S -k -2 (S -k )K-S K2 <ST < k3 T 1 0 T 2 3 T Where k2 = 0.5 (k1 +K3) S -k S -k -2 (S -k ) 0 ST > k3 T 1 T 3 T 2 YieldCurve.com Graphical Pay off for Butterfly using Bloomberg YieldCurve.com III. Combinations ThisThis typetype ofof optionoption strategystrategy involvesinvolves takingtaking aa positionposition inin bothboth callcall andand putput sideside ofof thethe marketmarket atat thethe samesame time.time. TheThe mostmost commonlycommonly tradedtraded areare StraddlesStraddles andand stranglesstrangles whichwhich areare strategiesstrategies wherewhere investorsinvestors areare bettingbetting onon volatilityvolatility ofof thethe underlyingunderlying toto recoverrecover therethere premium.premium. YieldCurve.com Straddle PopularPopular typetype ofof strategystrategy itit involvesinvolves buyingbuying aa callcall andand aa putput withwith thethe samesame strikestrike andand expiryexpiry date.date. AtAt expiry,expiry, IfIf thethe stockstock staysstays closeclose toto thethe strikestrike priceprice thethe paypay offoff wouldwould bebe aa loss.loss. MeanwhileMeanwhile ifif therethere isis aa largelarge movemove ofof thethe stockstock priceprice positivepositive oror negativenegative aa profitprofit wouldwould bebe made.made. ThisThis typetype ofof strategystrategy tendstends toto workwork ifif largelarge volatilityvolatility movesmoves areare expectedexpected onon thethe stockstock price.price. YieldCurve.com Straddle Pay off ∏ K Long Call Stock price Long Put Max (ST - K ,0) Max(K –ST,0 ) YieldCurve.com Pay of Straddle Price PO from Long Call PO from Long Put Total Pay off 0K-SK-S ST < k T T S -k S -k ST > k2 T 0 T YieldCurve.com Straddle using Bloomberg YieldCurve.com Strangle AA stranglestrangle isis composedcomposed ofof aa callcall andand aa putput positionposition withwith thethe samesame expiryexpiry butbut onon differentdifferent strikes.strikes. UsuallyUsually CallCall strikestrike KK2 >> KK1 PutPut strikestrike KK2 >> KK1 YieldCurve.com Strangle Pay off Long Stock ∏ ST Min (ST - K ,0) K1 K2 Long Call Stock price Max (ST - K ,0) Long Put Max(K –ST,0 ) YieldCurve.com Pay off representation Price PO from PO from Total Pay off Long call Short Call 0K-S K -S ST < k1 1 T 1 T 000 K1 <ST < k2 S -k S -k ST > k2 T 2 0 T 2 YieldCurve.com Graphical representation in Bloomberg YieldCurve.com DISCLAIMER The material in this presentation is based on information that we consider reliable, but we do not warrant that it is accurate or complete, and it should not be relied on as such. Opinions expressed are current opinions only. We are not soliciting any action based upon this material. YieldCurve.com, any associate of YieldCurve.com, any employing organisation of any Associate not any other affiliated body can be held liable or responsible for any outcomes resulting from actions arising as a result of delivering this presentation. YieldCurve.com.
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