Wojciech ZielinskiJung, Joonyoung

Barrier options

Table of contents

Barrier options Examples of different barrier options Example of call up out option KIKO case

Barrier Options

Nearly like European vanilla option

Path-dependent

knock-outs, knock-ins, kick-outs, kick-ins, ins, outs, exploding options, extin-guishing options and trigger options

Cheper

Examples of diferent barrier options

Down and Out Down and In Up and Out Up and In

Example of call up out option

Source: http://thismatter.com/money/options/exotic_options.htm

Case : Korean KIKO failure

South Korean exporters face KIKO night-mare

- Small and medium-sized companies in South Ko-rea are suffering from a huge amount of losses from investing in KIKO options as the local cur-rency moved opposite direction from their ex-pectation, Korea Herald reported Friday. The South Korean Financial Supervisory Service said that 519 publicly-traded companies in the coun-try that were involved in KIKO trading as of end of June are estimated to have lost 1.5 trillion won (1.25 billion US dollars) for holding the op-tion…….

Payoff for Korean Exporting Company

950

KRW/1USD

Profit

1010

890

KIKO: Knock In Knock Out

950

890

1010

960

Knock-Out

Buy 1 PutK=960

Sell 2(3) CallK=1010

Knock-In

950

890

1010

960

Knock-Out

Buy 1 Put

Sell 2(3) Call

Knock-In

+

+Naked Position

Payoff with KIKO contract

KIKO

950890 101

0960

KO KI

Ex. Rate at MAT

Option Contract Profit

St ≤890 Terminated ( - )

890<St≤960 Exercised at K=960(Put - Long Position)

(+)

960≤St<1010

Not Exercised(+)

1010≤St Exercised at K=1010(Call - Short Position)

( - )

Exchange Rate

KRW/1USDSource : Paxnet

KIKO

950890 1010

960

KO KI

KIKO payoff

Short Strangle payoff

KIKO

Taesan LCD, inc Kosdaq-listed manufacturer of TFT-LCD

products net profit of 11.4 billion won (9.5 million US

dollars) in ½ yr of 2008

due to the sharp depreciation of the won it incurred 80.6 billion won (67.2 billion US dollars) in KIKO-related losses during the same period which is equivalent to 129.1 percent of the firm's paid-in capital

Unable to make up for KIKO-related losses, the firm sought a corporate workout

KIKO

Why it happened

Optimistic expectation of Exchange Rate SME’s relationship with banks Explanation of the risks? Insufficient understanding about hedge