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Shout Options

A shout option is an european exotic option that allows the holder to lock in minimum profits via « shouting » while retaining the right to benefit from any future upside move in the underlying asset value. The « shout » is useful for locking in gains if the buyer thinks the option may lose its intrinsic value, or simply to lock in profit as the option is increasing in value. As all options, a shout option offers the right but not the obligation for an investor to buy, in the case of calls, or sell, in the case of puts, the underlying asset at a fixed price during a predetermined period of time in exchange of the price option. At the maturity date, the payoff of a shout option is the higher value between the classic payoff of an european option or the intrinsic value at the time of the « shout ».
For example, we have a shout call option with a strike price of $50 and a price of the underlying asset at $60 at the time of the « shout ». If the terminal value of the underlying asset is lower than $60, the holder earns $10 ($60 – $50 = $10). Contrariwise, if the value of the underlying asset is upper than $60, the holder earns the difference between the actual price and the strike price. More generally, the payoff of a shout option is : max(0 ; St − Ss) + (Ss − K). With St the underlying asset value at the maturity, Ss the underlying asset value at the date of the « shout » and K, the strike price. The terminal payoff is
guaranteed to be at least St − K. Obviously, the holder should « shout » only when St > K. The number of « shouting » rights throughout the life of the contract may be more than one. Some other restrictions may apply, for example, the « shouting » instants are limited to some predetermined times. In a broader sense, a shout option can be visualized as the right given to the holder to receive a new derivative. However, because the holder has the opportunity to lock in profits while still participating in future upside, shout options are more expensive than standard options. They are highly sensitive to volatility. The more volatile the underlying asset the more likely the option holder will get the opportunity to « shout ». The more « shout » opportunities, the more expensive the option.

Written on 11/12/2020

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