A quanto option works the same as a regular option. The only difference is that it operates across two different currencies. The pay off comes in a different currency than the currency used for the option's strike price and the underlying asset's trading price.
Let's break that down a bit. An option gives you the right to buy or sell (depending on the type of option) some underlying asset. So...you might hold an option to buy 100 shares of MSFT at $135, expiring in two months. MSFT in this case would count as the underlying asset. Fast-forward two months. It's expiration time. MSFT is trading at $145, meaning the option with the $135 strike price is in the money. You are going to exercise the option, buy 100 shares of MSFT at $135 and immediately sell them for $145, pocketing $10 a share...or $1,000 total.
So just to review: in this scenario, MSFT is valued in dollars. The strike price is listed in dollars.
A quanto option pays off in some other currency. When the option is purchased, an exchange rate is fixed, so that the quanto returns an amount in the other currency.
You bought your quanto option to pay off in euros. The EUR/USD rate was fixed at 1.15. Since then, the exchange rate has moved a little and is now trading at 1.10. However, you get the locked-in rate of 1.15. When you cash in your quanto option, the $1,000 return becomes €1,150.
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Finance: What is a Derivative?23 Views
finance a la shmoop what is a derivative? well it's derived it's a something taken
from something else like a derivative of hot weather is thirst a derivative of [Girl takes sip of glass of water on a beach]
hunger is well you know crankiness that's diva thing you get there...
derivative of a 1/32 quarterback rating in the NFL is like serious wealth yeah
yeah discount double shmoop yeah look for it be on there with aaron
and a derivative of a stock or bond or other security is a something which
derives its value based on the performance of that underlying security
there are basically two flavors of derivative put options ie the right to [Ice cream flavors appear]
sell a security at a given price over a given time period and a call option, ie
right to buy a security at a given price over a given time period
well the price of that option is derived from the price of the security and a few
other factors like strike prices and duration and all that stuff
colonel electric the downgraded new version of General Electric is trading [Colonel Electric appears in a suit]
for 25 bucks a share a derivative of its share price is sold in the form of a
call option with a $30 strike price expiring about 90 days from now on the
third Friday of the end of that month well investors pay a price albeit
probably a small one for the right to then pay 30 bucks a share for colonel [Call option appears for colonel electric]
electric at any time in the next 90 ish days until that option expires making the bet
that the stock will go well above 30 bucks a share in that time period that
call option is thus a derivative of the colonel electric primary stock price got
it if you really want to get personal well here's the ultimate form of
derivative [Baby laying down]
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What is a put option? A put option is a type of contract that lets the investor sell shares of a stock at a certain price and within a window of ti...
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