Lecture notes
FURTHER DERIVATIVES NOTES
- Module
- (BS3390)
- Institution
- Aston University, Birmingham (Aston)
NOTES ON FINANCIAL DERIVATIVES
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Further Derivatives – L7 Options on stock indices and currenciesIndex options
- The most popular indices underlying options in the U.S. are
o The S&P 100 Index (OEX and XEO)
o The S&P 500 Index (SPX)
o The Dow Jones Index times 0.01 (DJX)
o The Nasdaq 100 Index (NDX)
- Contracts are on 100 times index; they are settled in cash
o OEX is American; the XEO and all other options are European.
Using index options for portfolio insurance
- Suppose the value of the index is S0 and the strike price is K
- If portfolio β = 1.0 →portfolio insurance is obtained by buying 1 put option contract on the index for each
100S0 dollars held
- If the β is not 1.0 → portfolio manager buys β put options for each 100S0 dollars held
- In both cases, K is chosen to give the appropriate insurance level
NOTE: need to multiply by 100 because the
contract is written on 100 times the index.
- The higher the beta, the more aggressive
the insurance strategy → i.e. more options
are required
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