FX Option

ORE defines the European form as follows:

A European FX option gives the buyer the right, but not the obligation, to exchange a set amount of one currency for another, at a predetermined exchange rate, at one predetermined time in the future. For this right the buyer pays a premium to the seller. Settlement can be either cash or physical delivery.

Source: ORE User Guide, Products catalogue, fxoption.tex.

ORE defines the American form as follows:

An American FX option gives the buyer the right, but not the obligation, to exchange a set amount of one currency for another, at a predetermined exchange rate, at any time during the life of the option up until the expiration date. The right to exchange of one currency for another can only be exercised once. For this right the buyer pays a premium to the seller.

Source: ORE User Guide, Products catalogue, fxoption.tex.

An FX option is a ticket to a future exchange rate. The buyer pays a premium today. If the rate moves in the buyer's favour, the option is used. If not, it expires and only the premium is lost.

The FxOptionData node includes exactly one OptionData node plus elements specific to the option. For a put, the bought and sold currencies and amounts are switched compared to the trade data. A holder of a EUR-bought USD-sold call has the right to buy EUR using USD. The put counterpart has the right to buy USD using EUR. Settlement selects cash or physical delivery. PayOffAtExpiry selects payoff at expiry or at exercise, which matters for American options. AutomaticExercise handles an option whose expiry date has passed while its payment date still lies ahead.

A call on CCY1 per CCY2 pays the difference between the rate at exercise and the strike, times the quantity, when positive. A put pays the reverse. The value prices off the FX spot, the interest rates in both currencies, and the volatility surface. An American option adds the value of early exercise.

• The FX spot rate. It sets the moneyness.
• The volatility of the currency pair. It drives the time value.
• The interest rates in both currencies.
• The strike, the amounts, and the exercise style.
• The settlement mode and the premium terms.

A call gains when the rate rises. A put gains when it falls. Volatility raises the value of both.

The option loses time value as expiry approaches. The moneyness decides its fate at the end. An American option can be exercised early when that pays. After exercise the payoff settles, at exercise or at expiry. After settlement the trade stops.

An importer buys a call on the currency it pays. An exporter buys a put on the currency it earns. Both keep the upside of a favourable rate. The vanilla option is also the underlying of the FX exotic family. In ORE Studio a customer books FX options to value them and run sensitivities on the ORE engine.

ORE's catalogue shows a long European call:

<FxOptionData>
  <OptionData>
    <LongShort>Long</LongShort>
    <OptionType>Call</OptionType>
    <Style>European</Style>
    <Settlement>Cash</Settlement>
    <PayOffAtExpiry>false</PayOffAtExpiry>
    <ExerciseDates>
      <ExerciseDate>2026-03-01</ExerciseDate>
    </ExerciseDates>
    <Premiums>
      <Premium>
        <Amount>10900</Amount>
        <Currency>EUR</Currency>
        <PayDate>2020-03-01</PayDate>
      </Premium>
    </Premiums>
  </OptionData>
  <BoughtCurrency>EUR</BoughtCurrency>
  <BoughtAmount>1000000</BoughtAmount>
  <SoldCurrency>USD</SoldCurrency>
  <SoldAmount>1700000</SoldAmount>
</FxOptionData>

Source: ORE User Guide, Products catalogue, fxoption.tex, listing FX Option data.