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6- A put option on Canadian dollars with a strike price of Euro 63 is purchased by a speculator for a premium of Euro 0
6- A put option on Canadian dollars with a strike price of Euro 63 is purchased by a speculator for a premium of Euro 0.05. If the Canadian dollar's spot rate is $.64 on the expiration date: Should the speculator exercise the option on this date or let the option expire? If yes, show via calculations the final outcome. 15 points
Expert Solution
PUT Option with Strike Price =EURO 0.63 for One Canadian Dollar
PUT option gives the Purchaser of the option RIGHT but no obligation to SELL Canadian dollar at strike price =EURO 0.63
Price at expiration =S
If the Price at expiration is less than EURO 0.63, the buyer will gain by exercising the option. He can buy from market at the expiration price (Which is lower than Euro) and sell at Strike price=EURO 0.63 and thus make profit
Payoff for the Put Option=Max.((0.63-S),0)
Hence, if S<0.63, there will be positive payoff, Otherwise Payoff=0
Hence, ifPrice at expiration S=0.64EURO, the speculator should not exercise the option and let it expire. If he exercises the option, he will have to buy at Euro 0.64 and sell at Euro 0.63 , thus make loss of EURO0.01 per Canadian dollar
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