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