Lesson 28: Gap, Exchange, and Other Options

Question 1

What is a payment trigger?

Answer 1

The option must be exercised when the price is above (call) or below (put) the trigger, and cannot be exercised otherwise.

Question 2

What is a gap option?

Answer 2

An option with a trigger and a strike price where the two are unequal. Election is not optional!

Question 3

For a gap option, what happens if the trigger price is less than the strike price?

Answer 3

Negative payoffs are possible.

Question 4

What is a chooser option?

Answer 4

Also known as an as-you-like-it option allows one to choose, at time t less than or equal to T, to take either a call or put option expiring at time T, both with the same strike price K. Assume all options are European.

Question 5

What is a forward start option?

Answer 5

A prepaid forward on an option. At time t, you will receive an option whose strike price depends on the stock price at time t.

Question 6

What is a barrier option?

Answer 6

Has a payoff which depends on whether over the lifetime of the option the underlying asset hit the barrier. There are three basic types: knock-out options, knock-in options, and rebate options.

Question 7

What is a knock-out option?

Answer 7

This type behaves like a European option, except that it does not pay if the underlying asset hits a prespecified barrier.

Question 8

What are the two possibilities of knock-out options?

Answer 8

1. Up-and-out, meaning that if the price rises to the barrier then the option doesn’t pay.
2. Down-and-out, meaning that if the price falls to the barrier then the option doesn’t pay.