Forex options market was established in the form of an OTC financial vehicle to facilitate large international corporations, financial institutions, and banks in hedging against the foreign currency exposure. Forex options market, just like the spot market, is referred to as “interbank” market. Forex options market in today’s world includes large number of corporations and individuals who are hedging and speculating foreign currency exposure through online trading platforms or telephone. Forex option trading can be used in the form of an investment tool. It offers both the small and large investors with huge flexibility when determining appropriate forex hedging and trading strategies to implement.
Definition of Forex OptionsThis is actually the financial currency contract which provides the option buyer with the right and not the obligation of purchasing or selling the specific spot contract (which is the underlying asset) at a particular price (called the strike price) before the expiration date of the contract. “Option Premium” is the amount of money paid by the option buyer to the option seller for obtaining the option rights.
Who is the Option Buyer?The holder or buyer of currency options can either choose to sell the options contract before the expiration date or can hold the options contract until the contract expires. He can exercise his right to take the position in underlying spot currency. Assignment of spot position is referred to exercising currency option and thereby taking the consequent underlying position in currency spot market. The option buyers are only obliged to pay the option premium to option sellers when the currency option is purchased initially. After paying the premium, the option buyer has no other obligations financially until the currency option either expires or is offset. On the date of expiration, the call buyer exercises his right to buy underlying spot position at option’s strike price. The put buyer on the other hand exercises his right to sell underlying spot position at option’s strike price. The currency options are rarely exercised by the option buyers. They are usually offset before expiration in the market.
Who is the Option Seller?The “grantor” or “writer” of a currency option contract is usually referred to as the option seller. When the option buyer uses his rights, the option seller is obligated contractually to take opposite underlying spot position. The option seller assumes greater risks of taking potential adverse positions in the future in return for option premium that is paid by option buyer. The option premium that is paid by option buyer is transferred to the currency trading account of the option seller. The trading account of option seller must contain adequate funds that can be used to cover initial margin requirement. In case the market moves toward the unfavorable direction for option seller, he may have to put additional funds to the currency trading account in order to maintain the balance of trading account above minimum margin requirement. The option seller can either choose to offset the option contract before the expiration date or he can hold the option contract until the expiration date.
Forex Call OptionThis kind of option contract gives the option buyer the right and not obligation of purchasing the specific spot contract (which is the underlying asset) at a particular price (called the strike price) before the expiration date of the contract. Option premium is the amount paid by the option buyer to option seller for obtaining the option contract rights.
Forex Put OptionThis kind of option contract gives the option buyer the right and not obligation of selling the specific spot contract (which is the underlying asset) at a particular price (called the strike price) before the expiration date of the contract.
