Call option

Examples of Call option in the following topics:

• Options Contract

  • Options contracts are defined as either call or put options.
  • Option holders must pay a fee, called the option premium.
  • Consequently, the option issuer charges a greater option premium for both calls and puts.
  • Call option has a strike price of $0.3 US / ringgit.
  • Did you notice something strange about the call and put options?

• Chapter Questions

  • You are holding 10 call options for petroleum with a strike price of $75 per barrel.
  • Option premium equals $0.5 per barrel, and each contract specified a quantity of 1,000 barrels.
  • Compute the premium, and whether you will exercise this option if the market price is $50 per barrel?
  • A farmer bought 100 put options for corn.
  • Calculate the farmer's premium, and whether he will exercise this option if the market price of corn equals $6 per bushel?

• Call Provisions

  • Occasionally a bond may contain an embedded option.
  • That is, it grants option-like features to the holder or the issuer.
  • Since call option and put option are not mutually exclusive, a bond may have both options embedded.
  • Price of callable bond = Price of straight bond – Price of call option
  • Price of a callable bond is always lower than the price of a straight bond because the call option adds value to an issuer.

• Other Considerations in Capital Budgeting

  • The real option creates economic value by generating future decision rights for management.
  • The notion of real options was developed from the idea that one can view firms' discretionary investment opportunities as a call option on real assets, in much the same way as a financial call option provides decision rights on financial assets.
  • Another value-creating aspect of real options can be found in abandonment.
  • Such future discretionary investment opportunities are known as growth options.
  • Projects with real options can be evaluated using a range of possible profits.

• Black-Scholes Formula

  • The Black-Scholes formula is a way of pricing a European option.
  • The Black-Scholes formula is a way of pricing a European option (an option that can only be exercised at its expiration date).
  • This hedge is called delta hedging and is the basis of more complicated hedging strategies such as those engaged in by investment banks and hedge funds.
  • The Black-Scholes formula where S is the stock price, C is the price of a European call option, K is the strike price of the option, r is the annualized risk-free interest rate, sigma is the volatility of the stock's returns, and t is time in years (now=0, expiry=T).
  • An example of prices of a European call option over time as predicted by the Black-Scholes formula.

• Employee Stock Compensation

  • An employee stock option (ESO) is a call (buy) option on a firm's common stock, granted to an employee as part of his compensation.
  • A company offers stock options due in three years.
  • An employee stock option (ESO) is a call (buy) option on the common stock of a company, granted by the company to an employee as part of the employee's remuneration package.
  • The holder of the option should ideally exercise it when the stock's market price rises higher than the option's exercise price.
  • ESOs have several different features that distinguish them from exchange-traded call options:

• Defining Options and Their Valuation

  • An option that conveys the right to buy something at a specific price is referred to as a call; an option that conveys the right to sell something at a specific price is called a put.
  • Whether the option holder has the right to buy (a call option) or the right to sell (a put option).
  • Exotic option – any of a broad category of options that may include complex financial structures.
  • Nearly all stock and equity options are American options, while indexes are generally represented by European options.
  • A European call valued using the Black-Scholes pricing equation for varying asset price S and time-to-expiry T.

• Overview of Warrants

  • Warrants are very similar to call options.
  • For instance, many warrants confer the same rights as equity options, and warrants often can be traded in secondary markets like options.
  • When a call option is exercised, the owner of the call option receives an existing share from an assigned call writer.
  • Warrants are not standardized like exchange-listed options.
  • This erosion of time value is called time decay.

• Forms of Financial Compensation

  • An employee stock option (ESO) is a call option on the common stock of a company, granted by the company to an employee as part of the employee's remuneration package.
  • If the company's stock market price rises above the call price, the employee would exercise the option, pay the call price, and would be issued with ordinary shares in the company.
  • The employee would experience a direct financial benefit of the difference between the market and call prices.
  • If the market price falls below the stock call price at the time the option needs to be exercised, the employee is not obligated to call on the option, in which case the option will lapse.
  • Employee stock options are similar to warrants, which are call options issued by a company with respect to its own stock.

• Importance of the Time Value of Money

  • You are given two options on how to receive the money.
  • Option 2: Get paid $600,000 every year for the next 10 years.
  • In option 1, you get $5,000,000 and in option 2 you get $6,000,000.
  • By figuring out how much option 2 is worth today (through a process called discounting), you'll be able to make an apples-to-apples comparison between the two options.
  • If option 2 turns out to be worth less than $5,000,000 today, you should choose option 1, or vice versa.