A quanto option works the same as a regular option. The only difference is that it operates across two different currencies. The pay off comes in a different currency than the currency used for the option's strike price and the underlying asset's trading price.
Let's break that down a bit. An option gives you the right to buy or sell (depending on the type of option) some underlying asset. So...you might hold an option to buy 100 shares of MSFT at $135, expiring in two months. MSFT in this case would count as the underlying asset. Fast-forward two months. It's expiration time. MSFT is trading at $145, meaning the option with the $135 strike price is in the money. You are going to exercise the option, buy 100 shares of MSFT at $135 and immediately sell them for $145, pocketing $10 a share...or $1,000 total.
So just to review: in this scenario, MSFT is valued in dollars. The strike price is listed in dollars.
A quanto option pays off in some other currency. When the option is purchased, an exchange rate is fixed, so that the quanto returns an amount in the other currency.
You bought your quanto option to pay off in euros. The EUR/USD rate was fixed at 1.15. Since then, the exchange rate has moved a little and is now trading at 1.10. However, you get the locked-in rate of 1.15. When you cash in your quanto option, the $1,000 return becomes €1,150.
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Finance: What Is a Call Option?25 Views
finance a la shmoop. what is a call option? option? option, where are you? okay
yeah yeah. not phone options, call options. and a close but no cigar. a call option [man smokes in a tub of cash]
is the right to call or buy a security. the concept is easy the math is hard.
you think Coca Cola's poised for a breakout as they go into the new low
calorie beverage business. their stock is at 50 bucks a share and you can buy a [man stands on a stage as crowd cheers]
call option for $1. well that call option buys you the right
to then buy coke stock at 55 bucks a share anytime you want in the next
hundred and 20 days. so let's say Coke announces its new sugarless drink flavor
zero it's two weeks later and the stock skyrockets to fifty eight dollars a
share. you've already paid the dollar for the option now you have to exercise it. [man lifts weights]
so you buy the stock and you're all in now for fifty five dollars plus one or
fifty six bucks a share and your total value is now fifty eight bucks. well you
could turn around today and sell the bundle that moment, and you'll have
turned your dollar into two dollars of profit really fast. and obviously had the [equation on screen]
stock not skyrocketed so quickly well you would have lost everything. still you
lucked out and now you're sitting on some serious cash, courtesy of your call [two men in a tub of cash]
options. as for Coke flavor zero turned out to be nothing more than canned water.
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