Foreign Currency Options Trading


Published on - Foreign Currency Options Trading - Foreign currency options trading serves two purposes for two groups of traders.

Companies doing business internationally commonly make or receive payment in currencies foreign to their own.

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Foreign Currency Options Trading

  1. 1. Foreign Currency Options Trading By
  2. 2. Foreign currencyoptions trading serves two purposes for two groups of traders.
  3. 3. Companies doing business internationally commonly make or receive payment incurrencies foreign to their own.
  4. 4. Thus they must trade foreign currencies and they engage in Forexoptions trading in orderto reduce currency risk.
  5. 5. Currency speculatorsseek to take advantage of changes in currency value and may trade currencies directly
  6. 6. or hedge risk and gaininvestment leverage by means of foreign currency options trading.
  7. 7. Foreign currencies are traded one versus another.
  8. 8. Thus it is not the valueof the US dollar or Yen versus gold or commodities that one is concerned with in foreign currency options trading.
  9. 9. It is the relative valueof the dollar versus the Yen.
  10. 10. Fix Hedge Currency Risk with Futures
  11. 11. Here is a quick
  12. 12. A Japanese airlinewishes to buy a Boeing 787 Dreamliner.
  13. 13. Payment will be made in US dollars.
  14. 14. The plane will costaround $200 million.
  15. 15. Every one percentchange in the value of the Yen versus thedollar will change the cost of the delivered airline by $2 million.
  16. 16. In the last few months the USD YEN currency pair has varied by 5% from high to low.
  17. 17. That would translate to a difference of $10 million in what the Japanese airline might have to pay to Boeing.
  18. 18. There are a couple ofways that the Japanese airline might use to reduce currency risk.
  19. 19. The first is to buy currency futures. Theairline will pick a futures contract that will comedue around the time that the airplane will be delivered.
  20. 20. They will not need to spend any money with the futures contract but will obligate themselves to purchase dollars forYEN at the contract price on the settlement date.
  21. 21. This strategy fixes their cost of doing business as of the expiration dates of their futures contracts but has its drawbacks.
  22. 22. Rather the companywill buy options and on the options expirationdates will only need to execute the contracts involved if doing so is profitable.
  23. 23. Hedge Currency Riskwith Foreign Currency Options Trading
  24. 24. The better alternative in this situation is tobuy calls or puts on the USD with the YEN.
  25. 25. When to buy calls is when the traderbelieves that the USD will go up in valueversus the YEN by the time that payment is due.
  26. 26. When to buy puts is when the trader believes that the USD will fall in value by thetime in that payment is due.
  27. 27. If the dollar does, infact, go up in value the trader executes the options contract
  28. 28. and buys dollars at the strike price of the contract, the original value of the dollar versus the Yen.
  29. 29. As the figures noted above demonstrate, a savings of $10 millionon this sort of contract is possible.
  30. 30. The trader would only buy puts in thisinstance if his company already has money set aside in dollars to pay for the plane.
  31. 31. If the dollar plummetsin value the trader who has purchased puts on the dollar with the Yen can simply exit his contract and take the profit.
  32. 32. Thus he will have the same benefit is if he had kept Yen andconverted at the time of payment.
  33. 33. Speculators can use allof the same techniques but do so in seeking profit in whichever currency pair they are trading.
  34. 34. For more insights and useful informationregarding options and options trading, visitwww.Options-Trading-