Squaring off

This one is not written up yet

The definition above is the short version. A full explanation — how it works, a worked example and the exam traps — is still being written. In the meantime the chapter below covers it in context.

Written up from the same chapter

• At-the-moneyAn option whose strike price is closest to the spot price, so exercising it immediately would produce neither a gain nor a loss — the strike where the whole premium is time value and uncertainty peaks.
• Binomial pricing modelAn option pricing model that maps the underlying's possible prices as a tree of up and down moves at equally spaced time steps — accurate and flexible because it is iterative, but slow to compute.
• Break-even pointThe level of the underlying at which a position makes neither profit nor loss — for a bought call, strike plus premium; for a bought put, strike minus premium.
• Call optionA contract giving its buyer the right, but never the obligation, to buy the underlying at a fixed strike price — so the loss is capped at the premium and the gain is not.
• DeltaThe change in an option's premium for a one-rupee change in the underlying — the first and most used Greek, and the hedge ratio that says how much underlying to hold against an option position.
• GammaThe rate at which an option's delta changes for a one-unit change in the underlying — the second-order Greek, and the reason a delta hedge stops working as soon as the market moves.