File Name: Options Analysis – Binary Digital Instruments
Location: Modeling Toolkit | Options Analysis | Binary Digital Instruments
Brief Description: Values various types of binary digital instruments
Requirements: Modeling Toolkit
Modeling Toolkit Functions Used:
Binary exotic instruments (also known as Digital, Accrual or Fairway instruments) become valuable only if a barrier (upper or lower) is breached (or not), and the payout could be in the form of some prespecified cash amount or the underlying asset itself. The cash or asset exchanges hands either at the point when the barrier is breached or at the end of the instrument’s maturity (at expiration), assuming that the barrier is breached at some point prior to maturity.
For instance, in Down and In Cash at Expiration instruments, the instruments pay the specified cash amount at expiration if and only if the asset value breaches the lower barrier (asset value goes below the lower barrier), providing the holder of the instrument a safety net or cash insurance in case the underlying asset does not perform well. Up and In instruments are such that the cash or asset is provided if the underlying asset goes above the upper barrier threshold. For Up and Out or Down and Out instruments, the asset or cash is paid as long as the barrier is not breached. In At Expiration instruments, cash and assets are paid at maturity, whereas At Hit instruments are payable at the point when the barrier is breached. Figure 105.1 shows a sample set of inputs in a binary digital instrument.
Figure 105.1: Binary digital options