Chapter 20
Foreign Currency Futures and Options:
Appendix
ADDITIONAL QUESTIONS
1. Explain intuitively how foreign currency options can be replicated with portfolios of
borrowing and lending in the two currencies.
2. Why do the formulas for option prices not depend explicitly on the expected rate of
appreciation of one currency relative to another currency?
3. What is the Garman-Kolhagen model of foreign currency option pricing?
4. What is the delta of an option? Why is it useful?
5. What does it mean for a portfolio of options to be delta neutral?
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170
$1.25 €X $Y
$1.20 1.003
€
If we substitute this result into the first equation we get
$1.30 $Y 1.004 1.003 $Y 1.004 $5.00
$1.20
€1.003
€
− =
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172
24.63%.
7. Suppose the implied volatilities expressed in percent per annum of yen call options against
the dollar with maturities of one, two and three months are 9%, 10%, and 11%,
respectively. If you thought that the market would soon price options to have a common
volatility of 10%, what position would you take in the options to expect to profit from your
beliefs?