Put-Call Parity || CFA Level-1 || Derivatives
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Understanding Put-Call Parity and Protective Put Strategy
- Put-Call Parity states that the put premium and call premium must be equal.
- The Protective Put strategy involves buying a long put option and buying the stock at the same time.
- The cost of implementing the strategy includes the cost of the stock, the put option premium, and the call option premium.
- The Protective Put strategy provides protection against a decrease in stock price, as the put option can be exercised to limit losses.
- The pay-off in the Protective Put strategy depends on the stock price at expiration and the exercise price of the put option.
- If the stock price increases, the pay-off will be S1 - X (exercise price).
- If the stock price decreases, the pay-off will be S1 (stock price at expiration) - X.
- The Protective Put strategy also involves buying a zero-coupon bond, which requires an initial investment.
- The pay-off in the Protective Put strategy when the stock price is above the exercise price is S1 - X + Pay-off from the bond.
Factors Affecting Call and Put Option Value
- Exercise of rights can impact the value of options.
- Zero coupon bonds can affect the total amount received.
- Put-call parity should always hold to avoid arbitrage opportunities.
- D factors, such as interest rates, can impact the value of call and put options.
- The relationship between interest rates and option values can be positive or negative.
- Constant variables can help analyze the relationship between different factors.
Summary of Protective Put Strategy and Put-Call Parity
- Put-Call Parity states that put premium and call premium must be equal.
- The Protective Put strategy involves buying a long put option and buying the stock at the same time.
- The cost of implementing the strategy includes the cost of the stock, put option premium, and call option premium.
- The strategy provides protection against a decrease in stock price by exercising the put option to limit losses.