Posted in Finance, Accounting and Economics Terms, Total Reads: 2023
Definition: Currency Options
Exchange rates keep fluctuating in the market. Currency Options is arrangement in which currency can be bought or sold at a determined exchange rate for a specific period. This contract is to be carried out within a certain period or on a specific date. This contract is to be executed regardless of changes in its exchange rate during that period.
European: It can be exercised only on the expiry date
American: It can be exercised on any day between the date of purchase and the expiration date
For Example: A Rupee-US$ contract (put option) of selling 500,000 Rupees and buying 10,000 US$ on April 14th. In this case the agreed upon exchange rate is .02 US$ per Rupee, i.e. Rupee/US$ =.02
If the rate is higher than .02 on April 14th, then it means that Rupee is stronger and $ is weaker. If the exercise price is lower than the current market price, the seller would not exercise his right to sell and thus be saved from incurring loss. His only cost would be the premium paid to the writer of the option.