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Hi sir
i have understood your lecture on options well and good , then afterwards i was doing a question on options from bpp book and they seem to have used a different method when exercising options . they also have this adjustment of over/under hedged . i am getting a bit confused on whether to make this adjustment when using your method as there was a difference of ($629) $1322746 to $1322117(BPP) when using your method,also i did not adjust for over/under hedged and making that adjustment made the difference to increase. could you please explain this a bit ASAP thanks 🙂
One more question sir , there is a quick method in examkit to identify the best strike price by deducting a premium from the strike price to calculate which strike price to use instead of doing calculations for all strike prices separately . I was wondering is this method effective and will it gain full marks in exams as it seems quite short ?
Sir one more problem occurred in the very next , very simple example . I was supposed to pay euros in few months time and rate was 0.77euros to dollar . To calculate the correct profit from options i had to convert the rate to dollar to euro (1.299) to get the correct answer. Why is that ???
In answer to your first question, options will not precisely cover the raise of the transaction because of the fact that there are fixed sized contracts. The amount not covered by the options is therefore still at risk. If that is a problem for us, then we can use a forward rate on the amount not covered my the options to remove that risk.
For your second question:
In the exam you will get most of the marks by proving you know how options ‘work’ by choosing any sensible stoke price.
For a ‘perfect’ answer you should look at all the strike prices.Finally, your third question:
The profit or loss on the options needs to be converted to whatever currency the company is operation in. The profit or loss is calculated in dollars, but if the company is in a Euro country, then it needs to be converted to Euros.
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