CFA MOCK PM Q95 general, option

spartan1

I confused with the option here. does it mean the call option of callable bond? or it is just a general option, like a stock option? thanks

FVPV

I remember this one, just a call option as in a general option. It said somewhere in the deriv section that there is a positive relationship between call option price and IRs, whereas a negative between puts and IR. Hope this helps... Its on page 329 of the elan 11th hour guide if by chance you are using that.

rgonzalez

Yep, that's one of the sensitivities of Options in general...

Maybe a hint for some of you how to remember this connection.

The Call Writer (Short Call) is obliged to sell the Share at epiration to the call buyer (Long Call). In order to hedge himself, the Seller of the Call buys the Share in the market which he may deliver to the buyer at expiration. Therefore, when interest rates rise, the opportunity costs for the hedge (i.e. buying the share in exchange for cash) rise.

trogulj

thanks guys.

dmar

I find it easy to remember that the relation with interest rates is DIRECTLY related with calls, and INVERSELY related with puts.

Interest rates up - call value up, put value down
Interest rates down - call value down, put value up

Maddin

Think of it this way...as it pertains to normal options

When interest rates rise the prices on underlying assets rise. This makes the call option more valuable because there is more of a chance of being in the money. Put options value declines when interest rates are up.

The opposite with put options because they gain value when the interest rates decline because prices on the underlying assets are declining. Call option values decline when rates decline.