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training_data/curated/text/7da72f924c1340b91c999ddba975b59748049bf535406425936222ee050592ba.txt

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+Chapter 25: LEAPS 
+FIGURE 25-1. 
+LEAPS call pricing curve. 
+45 
+40 
+35 
+Q) 30 .g 
+o. 25 
+'lii U 20 
+15 
+10 
+5 
+, .... ,, 
+Various Expiration Dates 
+Strike= 80 
+2 Years (LEAP) , ' 
+' ,,,,' 
+,, ,, 
+,, ,, ,, 
+"' ,, ,, ,, ,, 
+,,' ,, 
+,. ,, ,, 
+0 L----~==--..l.---..J£----1.---L----.I....--
+60 70 80 90 100 110 
+Stock Price 
+371 
+Before that discussion, however, it may be beneficial to examine the effects that 
+interest rates and dividends can have on LEAPS. These effects are much, much 
+greater than those on conventional equity options. Recall that it was stated that inter­
+est rates and dividends are minor determinants in the price of an option, unless the 
+dividends were large. That statement pertains mostly to short-term options. For 
+longer-term options such as LEAPS, the cumulative effect of an interest rate or div­
+idend over such a long period of time can have a magnified effect in terms of the 
+absolute price of the option. 
+Figure 25-2 presents the option pricing curve again, but the only option depict­
+ed is a 2-year LEAPS. The striking price is 100, and the straight line at the right 
+depicts the intrinsic value of the LEAPS. The three curves represent option prices 
+for risk-free interest rates of 3%, 6%, and 9%. All other factors (time to expiration, 
+volatility, and dividends) are fixed. The difference between option prices caused 
+merely by a shift in rates of 3% is very large. 
+The difference in LEAPS prices increases as the LEAPS becomes in-the­
+money. Note that in this figure, the distance between the curves gets wider as one 
+scans them from left to right. The price difference for out-of-the-money LEAPS is 
+large enough- nearly a point even for options fairly far out-of-the-money (that is, the 
+points on the left-hand side of the graph). A shift of 3% in rates causes a larger price 
+difference of over 2 points in the at-the-money, 2-year LEAPS. The largest differen­
+tial in option prices occurs in-the-rrwney ! This may seem somewhat illogical, but 
+when LEAPS strategies are examined later, the reasons for this will become clear.