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Call option

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Transcript

  • 1. Call Option Presented By DHEERAJ
  • 2. Option The right to buy or sell a certain amount of an underlying financial asset at a specified price for a given period of time.
  • 3. Types of Options Types of Options  Puts  Calls  Rights  Warrants All of the above are types of derivative securities, which derive their value from the price behavior of an underlying real or financial asset.
  • 4. Options: Calls  Calls may be traded on:  Common stocks  Stock indexes  Exchange traded funds  Foreign currencies  Debt instruments  Commodities and financial futures Owners of put and call options have no voting rights, no privileges of ownership, and no interest or dividend income
  • 5. Advantages of Calls  Allows use of leverage  Leverage: the ability to obtain a given equity position at a reduced capital investment, thereby magnifying total return  Option buyer’s exposure to risk is limited to fee paid to purchase the put or call option  Investor can make money when value of assets go up or down
  • 6. Disadvantages of Calls  Investor does not receive any interest or dividend income  Options expire; the investor has limited time to benefit from options before they become worthless  Options are complex and tricky  Option seller’s exposure to risk may be unlimited  Options are risky because an investor has to be correct on two decisions to make money:  Which direction the price of the asset will move  When the price change will occur
  • 7. How Calls Work  Call: a negotiable instrument that gives the holder (buyer) the right to buy the underlying security at a specified price over a set period of time from the seller/maker/writer in exchange for a fee paid to the seller/maker/writer  The buyer of the call option wants the price of the underlying assets to go up  The seller/maker/writer of the call option wants the price of the underlying assets to go down
  • 8. How Calls Work (cont’d)  If the price of the underlying assets goes up:  The buyer will buy the asset at the lower strike price from the seller/maker/writer and sell it at the higher market price, making a profit  The seller will sell the assets at a price lower than the market price. If the seller does not already own the assets, then the seller will have to purchase them at the higher market price  Covered call: seller owns the asset  Naked call: seller does not own the asset
  • 9. How Calls Work (cont’d)  If the price of the underlying assets go down:  The buyer will let the call option expire worthless and lose the fee paid  The seller will keep the fee received and make a profit
  • 10. How Calls Work (cont’d)   Example: Assume the market price for a share of common stock is $50. A call option to purchase 100 shares of the stock at a strike price of $50 per share may be purchased for $500 If the market price of the stock goes down to $25 per share, the buyer will allow the call option to expire worthless. Loss Loss  Cost of call $(500) The buyer’s loss will be: The seller/maker/writer’s profit will be: Profit Profit Fee of call $(500)