Basic Strategy- The Underlying Premise
Basic Strategy The Underlying Premise As stated earlier, option premiums do not reflect inflation or the growth prospects of the underlying issue. This does not matter much for standard options because of the relatively short time to expiration—eight months at the most. It does matter, however, for LEAPS, which can expire as many as 30 months later. By not taking inflation or the growth prospects of the underlying issue into account, the level of risk of a put option winding up in the money and being exercised against the writer appears to be larger than it really is. As a result, premiums for long-term put options are often overpriced with respect to the true level of risk involved. As an example, suppose you were considering the sale of an at-the-money put on a stock priced at $100 a share whose volatility was 0.40 and that pays no dividend. The risk-free interest rate is currently 6 percent. You are considering the sale of a standard put expiring in three m