August 2010
Beginner to intermediate
495 pages
11h 48m
English
Content preview from Fixed-Income Securities and Derivatives Handbook, Second Edition
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CHAPTER 9
Measuring Option Risk
This chapter looks at how options behave in response to changes in market conditions and the main issues that a market maker in options must consider when writing the contracts. It also reviews “the Greeks”—the sensitivity measures applied to option books—and an important set of interest rate options: caps and floors.
Option Price Behavior
As noted in Chapter 8, the value of an option is a function of five factors:
• The price of the underlying asset
• The option’s strike price
• The option’s time to expiry
• The volatility of the underlying asset’s price returns
• The risk-free interest rate applicable to the life of the option
The price of an option is composed of intrinsic value and time value. An option’s intrinsic ...
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