The value of the token is obvious after the throw of the dice, but how much is it worth before? The main question of the presentation: How much are the options worth long before using them? Before answering, let's check how options are made. We can see some options on the 6^th illustration.

6^th illustration

---

---

The option is a possibility, but not every possibility is an option. We are speaking about option when we do something in connection with an uncertain future event so that we can make something with it later, when it's necessary.

One of Hamurappi's laws, the 48th paragraph to be more specific, says that if there are crop losses, due to a natural catastrophe, those who have debts don't have to pay the interests for a year. So, the Babylonians could erase their obligations in the year when the crop losses happened. So how could we define the 48 th paragraph more accurately? When the losses happened the producers were given the right not to redeem their obligations for a year. On the other hand, the creditors didn't get extra rights: they simply had to forgive the interests. In other words: debtors had a callable option in connection paying with interest, if they suffered crop losses. The 48 th paragraph is the world's first written option contract.

Let's see some examples:

1. If someone takes a seat in the edge of the row, next to the door, in this way he assures himself with a possibility to leave inconspicuously before the end of the show if it gets boring.

2. We have to take the umbrella when we leave so that we can open it if it's necessary. A tree that gives us shelter it falls out, when it rains, is not an option, just an occasional possibility. We can always trust in an umbrella but a tree or the shadow of a doorway is just something that we can hope for.

3. If we get a passport then we can travel abroad over a certain period of time, but we do not commit ourselves to it. Any kind of ticket can be seen as an option.

4. A V-shaped form in the 6^th illustration shows that we have made a contract with someone with the following conditions: we can buy one share for 6000 at the end of November (if the exchange rate is over 6000) or we can sell it for 6000 (if the exchange rate is less than 6000). We can win in both cases, and our profit is the difference from 6000, that our share would be worth at the end of November - a sum that cannot be anticipated.

Staying with the 4 th example: How can we persuade someone to undertake these disadvantageous (for him) buying or selling options? I guess you know the answer: with money. The question is: for how much?

Hereinafter, we are going to examine how these results have changed the study of finance.

In our everyday life we use a mass of complex options confidently and instinctively, in order to provide security for ourselves and statisfy our greed. The options used in the financial markets are much simpler:

The call option provides a right to by a certain financial product for a certain price, at the appointed time for its owner.

The put option entitles its owner to sell a definite financial product for a certain price at the appointed time.

Both of the options are created buy making a bilateral contract. In return for the option price the entitled gets the right – providing the preferred exchange rate for him. For this option price the committed party undertakes the compliance of the option, which, in the future, is unambiguously disadvantageous for him. He expects it not to come on, as the exchange rate will go in the direction that is suits him.

The call and put options create both clear-cut and unclouded situations, where the balance between the entitled and the committed party is created by the option price. The everyday options make for much more muddled situations.

In our everyday life we often think that it would be better to have a good relationship with X or Z. We don't exactly know what we want from them it but it can happen that on day we will ask them for sg.

We can call options for shares, foreign bills in the exchange markets or any financial institutions but we can also call options with the neighbour for a car, an immovable and a wheelbarrow, as well. We are going to show examples of foreign bill and share options, as we have a lot of data on the changes in their prices. However, the stock exchange is a mystery to many people it gives the clearest prices.

Let's compare the components of an everyday option and a financial option.

The two problems are the followings:

Maybe it will rain.

When we buy the share, we don't know how much we can sell it for the future.

Risk

Umbrella: it starts to rain

Put option (right for sell): the exchange rate falls under the predetermined level

That I would like to avoid

Umbrella: that my clothes get wet, or maybe I get cold

Put option (right for sell): that the price for that I sell the share goes under the buying price

What to do?

Umbrella: we take it with ourselves

Put option (right for sell): we make a contract for a fix selling price (ex. K = 100$)

The cost

Umbrella: it has to be carried

Put option (right for sell): an option price should be paid (ex. P= 6$)

How to use the option?

Umbrella: we open it when it starts to rain

Put option (right for sell): we sell it for 100$ to our partner while the market price is under 100$

When do we not use it?

Umbrella: when it doesn't rain

Put option (right for sell): when the market price is over 100$

---

The everyday equivalent for the selling right: to get rid of something, to get out of some situation. The divorce ex. is a put option. In the Middle Age this option was only possible in privileged situations. The lack of this possibility had bloody consequences. Just think about the wives of Henry VIII. J

The put option gives a sure feeling of certainty that we will able to sell our paper for 100$ also if the exchange rate is only 80$.

---

» Back to top