Currency Options

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What is an Option Contract?
An option is an instrument that specifies a contract between two parties for a future transaction at a reference price (the strike). The buyer of the option gains the right, but not the obligation, to engage in that transaction, while the seller incurs the corresponding obligation to fulfill the agreement.
Buying an option is often seen as a form of insurance which guarantees for the buyer the worst price scenario.
TFI Markets offers the chance to benefit and/or mitigate your currency risk through a variety of options and option structures.
4 Major Option Strategies
Long Put option
Right to sell
Short Call option
Obligation to sell
Long Put option
Right to sell
Short Call option
Obligation to sell
Combine Strategies
You can also combine these strategies if a more complicated option structure suits your hedging or investment needs.
Long Put Option
Right to Sell
If you have liabilities (payables) in USD and assets (receivables) in EUR.
For example you buy goods valued in USD and you sell them in EUR.
Buying a put option is often seen as a form of insurance which guarantees the worst price scenario.
Buy (long) a put option equal in value to the amount of you liabilities for x time. (i.e. a month/year). At expiration you can choose the best price either from the spot rate or exercise the option if the spot rate is below the exercise price.
If future spot rate for EUR/USD falls below the strike price then your option will be in-the-money and you will exercise it i.e. sell EURUSD at a higher price from spot.
If future spot rate for EUR/USD rises above the strike price then your option will be out-of-the-money, so you don’t exercise it, instead you can sell EURUSD at the higher EURUSD spot price.
The option premium which you pay up-front will be your only cost. The value of the option until expiry can be either positive or zero but can never go negative for the option buyer. There is no margin requirement for the buyer.
At expiry TFI Markets can deliver the funds either to your bank account or make a payment on your behalf to a third party.
1st Strategy Graph
Example
You buy a put option to sell 1 million EURO against USD in 3 months at 1.0500 at a premium of EUR7,000. This will guarantee that the worst rate you will be selling the EURO in 3 months will be 1.0500. If the spot rate in 3 months is 1.0000 you will exercise the option and sell at 1.0500. If the rate is above 1.0500 then the option will expire unexercised and you sell at the spot rate e.g at 1.1000.
Long Call Option
Right to Buy
If you have payables in EUR and receivable in USD you have the risk of EUR appreciating against the USD.
Buy (long) a call option equal in value to the amount of your liabilities.
If the future spot rate for EUR/USD rises above the strike price then your option will be in-the-money. Exercising the option will produce a profit which will cover the on-balance sheet losses since your liabilities have increased.
If the future spot rate of EUR/USD falls below the strike price then your option will be out of the money and will not be exercised, but you gain on your balance sheet since the USD value of your EUR liabilities has fallen. In other words you need less USD (receivables) to pay for the EUR (payables) since the USD has risen in value in relation to the EUR.
The option premium which you pay up-front will be your only cost.
At expiry TFI Markets can deliver the funds either to your bank account or make a payment on your behalf to a third party business associate.
2nd Strategy Graph
Risk Reversal
or Collar Structure
There is a way to lower the cost of hedging by combining a long put option and a short call option.
You pay a premium to buy the put option but also receive a premium when you sell the call option.
This is not a perfect hedge strategy. This strategy guarantees the best and worst case scenarios. It is commonly used by clients that want to avoid paying the upfront cost/premium and need to cover any adverse currency movements while they are happy to limit their potential gain.
If EUR depreciates against the USD (i.e. spot rate < strike price) the long put option is in-the-money while the call you have sold is out-of-the-money and therefore is not exercised by the buyer.
If EUR appreciates against USD the long put option is out-of-the-money and you don’t exercise it, while the call you have sold is in-the-money and will be exercised.
3rd Strategy Graph
Example
You buy a put option at 1.0500 and sell a call option at 1.1000 at zero cost. This will guarantee that the best rate you will be selling the EURO in 3 months will be 1.1000 and the worst rate 1.0500. If the rate in 3 months is within 1.0500 and 1.1000 both options will expire unexercised and you can sell at the spot rate.

If the spot rate is below 1.0500 you will be able to sell at 1.0500 while if the spot rate is above 1.1000 you will be selling at 1.1000.
Dual Currency
Option
A dual currency option is basically selling an option with an exercise price at current spot or at a higher rate than the current spot rate (out of the money).
You receive an upfront fee in the form of the option premium.
If the option is not exercised then you end up with a net profit equal to the upfront premium.
If the option is exercised you still gain the upside up to the exercise price however you lose part of the upside potential.
4th Strategy Graph
Example
For example you have a deposit in EUR100,000 in your bank and the current EUR/USD spot rate is 1.09. You place your EUR100,000 funds in TFI Markets as margin collateral and you sell a call option (option to buy EUR/USD) for EUR100,000 against USD at 1.1000 for 1 month.

You (the seller) will receive an upfront premium depending on the maturity and exercise price (e.g. 1% on the notional amount=EUR1,000). If in 1 month the price of EUR/USD stays below 1.1000, then your EUR margin stays intact and you gain the upfront premium of EUR1,000.

If in 1 month the EUR/USD rate rises at or above 1.1000 your EUR will be exchanged to USD at 1.1000 which is better than the current rate of 1.09 plus you will also gain the option premium (you end up with USD110,000+EUR1,000 instead of USD109,000).
Participating Forward
Structure
A participating forward structure is another option strategy that combines puts and calls.
It is a structure where the call and put have the same exercise price and expiry BUT different notionals.
The different notional amounts in the call and put in the participating forward let you partially benefit from a favourable spot rate move, while ensuring you are hedged in the event of an adverse spot rate move.
There is a margin requirement for this option structure.
5th Strategy Graph
Example
In this example the participation rate is at 70%.

You buy a put option at 1.20 for EUR10 million and sell a call option at 1.20 for EUR7 million at zero cost. If the spot rate in 3 months is above 1.20 (i.e. 1.25) then you will have to sell EUR7 million at 1.20 and you can sell another EUR3 million at the spot rate of 1.25.

If the spot rate in 3 months is 1.10 then you can sell EUR10 million at 1.20.

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