Microsoft PowerPoint - PoF.ppt

Portfolio insurance: The “collar”ƒ 176

Portfolio insurance is used to ensure against declines in asset values. Sometimes, we can reduce the cost of such insurance by simultaneously writing calls.

ƒ

This is the idea of the “collar”.

ƒ

A

collar

is a portfolio of

ƒ

The

underlying asset

ƒ

A

written call on the asset

with exercise price E

C

ƒ

A

purchased put on the asset

with exercise price E

P

ƒ

The idea is to sell off some of the upward potential (in the form of the written call) in order to reduce the insurance costs (the price of the put), i.e. E

C

> E

.P

Derivative securities: Options - Introduction