Analyzing and Simulating Stock Option Trading Strategies by dda29983

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									   Analyzing and Simulating Stock Option Trading Strategies



                                  by Wang Tong Tong



Call_No: MBA(BF)032.WAN
                                             CONTENTS
PREFACE                                                        I
ACKNOWLEDGMENT                                                 IV
NOTATIONS AND ABBREVIATIONS                                    V
Chapter 1   Introduction of Options                            1
  1.1   What is an Option                                      1
  1.2   Types of Option                                        2
  1.3   Option Positions and Payoffs                           3
    1.3.1   Long Position in a Call                            3
    1.3.2   Short Position in a Call                           3
    1.3.3   Long Position in a Put                             3
    1.3.4   Short Position in a Put                            4
  1.4   Options in Hong Kong Financial Market                  4
    1.4.1   Option Contracts                                   5
    1.4.2   Option Expiration Dates                            6
    1.4.3   Option Transactions                                6
    1.4.4   Dividends and Stock Splits                         7
    1.4.5   Open Interest                                      7
  1.5   Option Terminology                                     8
    1.5.1   Option Class and Option Series                     8
    1.5.2   In-the-money, At-the-money, and Out-of-the-money   8
    1.5.3   Intrinsic Value and Time Value                     9
Chapter 2   Implementing Stock Option Pricing Models           10
  2.1   Implementing Black-Scholes Option Pricing Model        11

                                                1
    2.1.1   Black-Scholes Option Pricing Model (BSOPM)   11
    2.1.2   Option Sensitivities in BSOPM                15
  2.2   Implementing Binomial Option Pricing Model       20
    2.2.1   Binomial Option Pricing Model (BOPM)         21
    2.2.2   Option Sensitivities in BOPM                 28
  2.3   Estimating Implied Volatility                    35
    2.3.1   Bisection Method                             36
    2.3.2   Newton-Raphson Method                        39
Chapter 3   Analyzing Options and Option Sensitivities   41
  3.1   Analyzing Options                                41
    3.1.1   The Effect of Stock Price                    41
    3.1.2   The Effect of Exercise Price                 42
    3.1.3   The Effect of Time to Expiration             43
    3.1.4   The Effect of Interest Rate                  45
    3.1.5   The Effect of Stock Volatility               47
    3.1.6   The Effect of Stock Dividends                47
  3.2   Analyzing Option Sensitivities                   48
    3.2.1   Delta                                        49
    3.2.2   Gamma                                        49
    3.2.3   Theta                                        50
    3.2.4   Vega                                         51
    3.2.5   Rho                                          51
Chapter 4   Implementing Option Trading Strategies       53
  4.1   Long Or Short An Option                          53
    4.1.1   The User-defined Function for Excel          53
    4.1.2   Buying a Call                                54
    4.1.3   Selling a Call                               55
    4.1.4   Buying a Put                                 56
    4.1.5   Selling a Put                                57
  4.2   Covered Call Writing                             58
    4.2.1   The User-defined Function for Excel          58
    4.2.2   Covered Call Writing                         58

                                                  2
    4.2.3   Synthetic Put (Reverse Covered Call)       61
  4.3   Protective Put                                 62
    4.3.1   The User-defined Function for Excel        62
    4.3.2   Protective Put                             63
  4.4   Straddle                                       64
    4.4.1   The User-defined Function for Excel        64
    4.4.2   Straddle                                   66
    4.4.3   Strap                                      66
    4.4.4   Strip                                      67
    4.4.5   Strangle                                   68
  4.5   Money Spread                                   69
    4.5.1   The User-defined Function for Excel        69
    4.5.2   Bullish Spread                             71
    4.5.3   Bearish Spread                             72
    4.5.4   Butterfly Spread                           74
    4.5.5   Condor                                     75
  4.6   Time Spread                                    75
    4.6.1   The User-defined Function for Excel        76
    4.6.2   Time Spread                                77
Chapter 5   Analyzing Option Trading Strategies        79
  5.1   Selecting Options                              79
    5.1.1   Selecting Options                          79
    5.1.2   Estimating Implied Volatility              81
  5.2   Analyzing Buying a Call                        82
    5.2.1   Analyzing the Payoffs                      82
    5.2.2   The Calculations                           83
  5.3   Analyzing a Covered Call Writing               83
    5.3.1   Analyzing the Payoffs                      84
    5.3.2   The Calculations                           84
  5.4   Analyzing a Strangle                           85
    5.4.1   Analyzing the Payoffs                      85
    5.4.2   The Calculations                           85

                                                   3
  5.5   Analyzing a Money Spread                      87
    5.5.1   Analyzing the Payoffs                     87
    5.5.2   The Calculations                          87
  5.6   Analyzing a Time Spread                       88
    5.6.1   Analyzing the Payoffs                     89
    5.6.2   The Calculations                          89
Chapter 6   Simulating Options Hedging Positions      91
  6.1   Delta Hedge                                   91
    6.1.1   Simulating Delta Hedge                    92
    6.1.2   Some Discussions                          95
  6.2   Portfolio Insurance                           96
    6.2.1   The User-defined Function for Excel       97
    6.2.2   Simulating Portfolio Insurance            98
    6.2.3   Some Discussions                          100
Chapter 7   Conclusions                               102
REFERENCES                                            104




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