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Brealey−Meyers: VI. Options 20. Understanding Options Principles of Corporate Finance, Seventh Edition © The McGraw−Hill Companies, 2003 C H A P T E R T W E N T Y U N D E R S T A N D I N G O P T I O N S 562 Brealey−Meyers: VI. Options 20. Understanding Options Principles of Corporate Finance, Seventh Edition © The McGraw−Hill Companies, 2003 FIGURE 20.1(A) SHOWS your payoff if you buy AOL Time Warner (AOL) stock at $55. You gain dollar-for-dollar if the stock price goes up and you lose dollar-for-dollar if it falls. That’s trite; it doesn’t take a genius to draw a 45-degree line. Look now at panel (b), which shows the payoffs from an investment strategy that retains the up-side potential of AOL stock but gives complete downside protection. In this case your payoff stays at $55 even if the AOL stock price falls to $50, $40, or zero. Panel (b)’s payoffs are clearly better than panel (a)’s. If a financial alchemist could turn panel (a) into (b), you’d be willing to pay for the service. Of course alchemy has its dark side. Panel (c) shows an investment strategy for masochists. You lose if the stock price falls, but you give up any chance of profiting from a rise in the stock price. If you like to lose, or if somebody pays you enough to take the strategy on, this is the strategy for you. Now, as you have probably suspected, all this financial alchemy is for real. You really can do all the transmutations shown in Figure 20.1. You do them with options, and we will show you how. But why should the financial manager of an industrial company be interested in options? There are several reasons. First, companies regularly use commodity, currency, and interest-rate options to re-duce risk. For example, a meatpacking company that wishes to put a ceiling on the cost of beef might take out an option to buy live cattle. A company that wishes to limit its future borrowing costs might take out an option to sell long-term bonds. And so on. In Chapter 27 we will explain how firms em-ploy options to limit their risk. Second, many capital investments include an embedded option to expand in the future. For in-stance, the company may invest in a patent that allows it to exploit a new technology or it may pur-chase adjoining land that gives it the option in the future to increase capacity. In each case the com-pany is paying money today for the opportunity to make a further investment. To put it another way, the company is acquiring growth opportunities. Here is another disguised option to invest: You are considering the purchase of a tract of desert land that is known to contain gold deposits. Unfortunately, the cost of extraction is higher than the current price of gold. Does this mean the land is almost worthless? Not at all. You are not obliged to mine the gold, but ownership of the land gives you the option to do so. Of course, if you know that the gold price will remain below the extraction cost, then the option is worthless. But if there is un-certainty about future gold prices, you could be lucky and make a killing.1 If the option to expand has value, what about the option to bail out? Projects don’t usually go on until the equipment disintegrates. The decision to terminate a project is usually taken by manage-ment, not by nature. Once the project is no longer profitable, the company will cut its losses and ex-ercise its option to abandon the project. Some projects have higher abandonment value than others. Those that use standardized equipment may offer a valuable abandonment option. Others may ac-tually cost money to discontinue. For example, it is very costly to decommission an offshore oil rig. We took a peek at these investment options in Chapter 10, and we showed there how to use de-cision trees to analyze Magna Charter’s options to expand its airline operation or abandon it. In Chap-ter 22 we will take a more thorough look at these real options. The other important reason why financial managers need to understand options is that they are of-ten tacked on to an issue of corporate securities and so provide the investor or the company with the flexibility to change the terms of the issue. For example, in Chapter 23 we will show how warrants and continued 1In Chapter 11 we valued Kingsley Solomon’s gold mine by calculating the value of the gold in the ground and then subtracting the value of the extraction costs. That is correct only if we know that the gold will be mined. Otherwise, the value of the mine is in-creased by the value of the option to leave the gold in the ground if its price is less than the extraction cost. 563 Brealey−Meyers: VI. Options 20. Understanding Options Principles of Corporate Finance, Seventh Edition © The McGraw−Hill Companies, 2003 564 PART VI Options convertibles give their holders an option to buy common stock in exchange for cash or bonds. Then in Chapter 25 we will see how corporate bonds may give the issuer or the investor the option of early repayment. In fact, we shall see that whenever a company borrows, it creates an option. The reason is that the borrower is not compelled to repay the debt at maturity. If the value of the company’s assets is less than the amount of the debt, the company will choose to default on the payment and the bond-holders will get to keep the company’s assets. Thus, when the firm borrows, the lender effectively ac-quires the company and the shareholders obtain the option to buy it back by paying off the debt. This is an extremely important insight. It means that anything that we can learn about traded options applies equally to corporate liabilities.2 In this chapter we use traded stock options to explain how options work, but we hope that our brief survey has convinced you that the interest of financial managers in options goes far beyond traded stock options. That is why we are asking you to invest here to acquire several important ideas for use later. If you are unfamiliar with the wonderful world of options, it may seem baffling on first encounter. We will therefore divide this chapter into three bite-sized pieces. Our first task is to introduce you to call and put options and to show you how the payoff on these options depends on the price of the underlying asset. We will then show how financial alchemists can combine options to produce the in-teresting strategies depicted in Figure 20.1 (b) and (c). We conclude the chapter by identifying the variables that determine option values. Here you will encounter some surprising and counterintuitive effects. For example, investors are used to thinking that increased risk reduces present value. But for options it is the other way around. 20.1 CALLS, PUTS, AND SHARES The Chicago Board Options Exchange (CBOE) was founded in 1973 to allow in-vestors to buy and sell options on shares of common stock. The CBOE was an al-most instant success and other exchanges have since copied its example. In addi-tion to options on individual common stocks, investors can now trade options on stock indexes, bonds, commodities, and foreign exchange. Table 20.1 reproduces quotes from the CBOE for June 22, 2001. It shows the prices for two types of options on AOLstock—calls and puts. We will explain each in turn. Call Options and Position Diagrams A call option gives its owner the right to buy stock at a specified exercise or strike price on or before a specified exercise date. If the option can be exercised only on one particular day, it is conventionally known as a European call; in other cases 2This relationship was first recognized by Fischer Black and Myron Scholes, in “The Pricing of Options and Corporate Liabilities,” Journal of Political Economy 81 (May–June 1973), pp. 637–654. Brealey−Meyers: VI. Options 20. Understanding Options Principles of Corporate Finance, Seventh Edition © The McGraw−Hill Companies, 2003 CHAPTER 20 Understanding Options 565 Your Your payoff payoff Win if stock price rises Lose Protected on downside Win if stock price rises if stock price falls $55 (a) Future stock price Your payoff $55 (b) Future stock price No upside Lose if stock price falls $55 (c) Future stock price FIGURE 20.1 Payoffs to three investment strategies for AOL stock. (a) You buy one share for $55. (b) No downside. If stock price falls, your payoff stays at $55. (c) A strategy for masochists? You lose if stock price falls, but you don’t gain if it rises. (such as the AOLoptions shown in Table 20.1), the option can be exercised on or at any time before that day, and it is then known as an American call. The third column of Table 20.1 sets out the prices of AOL Time Warner call op-tions with different exercise prices and exercise dates. Look at the quotes for op- tions maturing in October 2001. The first entry says that for $10.50 you could re-quire an option to buy one share3 of AOL stock for $45 on or before October 2001. Moving down to the next row, you can see that an option to buy for $5 more ($50 vs. $45) costs $3.75 less, that is $6.75. In general, the value of a call option goes down as the exercise price goes up. Now look at the quotes for options maturing in January 2002 and 2003. Notice how the option price increases as option maturity is extended. For example, at an 3You can’t actually buy an option on a single share. Trades are in multiples of 100. The minimum order would be for 100 options on 100 AOL shares. Brealey−Meyers: VI. Options 20. Understanding Options Principles of Corporate Finance, Seventh Edition © The McGraw−Hill Companies, 2003 566 PART VI Options TABLE 20.1 Prices of call and put options on AOL Time Warner stock on June 22, 2001. The closing stock price was $53.10. *Long-term options are called “LEAPS.” Source: Chicago Board Options Exchange. Average of bid and asked quotes as reported at www.cboe.com/MktQuote/ DelayedQuotes.asp. Option Maturity October 2001 January 2002 January 2003* Exercise Price $ 45 50 55 60 65 70 $ 45 50 55 60 65 70 $ 50 60 70 80 100 Price of Call Option $10.50 6.75 3.85 2.10 1.07 .52 $12.00 8.45 5.75 3.75 2.25 1.45 $13.30 8.80 5.90 3.85 1.70 Price of Put Option $ 1.97 3.15 5.25 8.50 12.50 17.10 $ 2.90 4.35 6.55 9.55 13.20 17.50 $ 7.30 12.40 19.40 27.80 47.00 exercise price of $60, the October 2001 call option costs $2.10, the January 2002 op-tion costs $3.75, and the January 2003 option costs $8.80. In Chapter 13 we met Louis Bachelier, who in 1900 first suggested that security prices follow a random walk. Bachelier also devised a very convenient shorthand to illustrate the effects of investing in different options.4 We will use this shorthand to compare three possible investments in AOL—a call option, a put option, and the stock itself. The position diagramin Figure 20.2(a)shows the possible consequences of investing in AOL January 2002 call options with an exercise price of $55 (boldfaced in Table 20.1). The outcome from investing in AOLcalls depends on what happens to the stock price. If the stock price at the end of this six-month period turns out to be less than the $55 exercise price, nobody will pay $55 to obtain the share via the call option. Your call will in that case be valueless, and you will throw it away. On the other hand, if the stock price turns out to be greater than $55, it will pay to exercise your option to buy the share. In this case the call will be worth the market price of the share minus the $55 that you must pay to acquire it. For example, suppose that the price of AOLstock rises to $100. Your call will then be worth $100 $55 $45. That is your payoff, but of course it is not all profit. Table 20.1 shows that you had to pay $5.75 to buy the call. Put Options Now let us look at the AOL put options in the right-hand column of Table 20.1. Whereas the call option gives you the right to buy a share for a specified exercise price, the comparable put gives you the right to sell the share. For example, the 4L. Bachelier, Théorie de la Speculation, Gauthier-Villars, Paris, 1900. Reprinted in English in P. H. Cootner (ed.), The Random Character of Stock Market Prices, M.I.T. Press, Cambridge, MA, 1964. ... - tailieumienphi.vn
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