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CA Final · Advanced Financial Management · Foreign Exchange Exposure and Risk Management

Which statement about a European-style currency option is correct?

The put buyer's maximum loss is limited to the premium paid, because the buyer can simply let the option lapse if it is unfavourable. Writers, by contrast, earn at most the premium and can suffer large losses.

  1. ABuyer of a call has unlimited loss if the currency rises
  2. BWriter of a put has limited loss capped at the premium received
  3. CBuyer of a put has maximum loss limited to the premium paidCorrect
  4. DWriter of a call has maximum profit equal to the strike price

Explanation

An option buyer's maximum loss is the premium paid, while profit potential is large. Option writers receive the premium as maximum profit and may face large losses. Thus only the statement on the put buyer is correct.

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