FX Option Trading – Are You American Or European?

Posted by on Jan 30th, 2011 | no comments

Foreign exchange or FX as the biggest financial market in the world, as well as stock market, provides some derivative products such as futures and options. Although the transaction volume is not as high as FX cash market, the growing FX option trading becomes more popular recently. Many investors gained more knowledge and trying their luck to speculate in FX option trading. Perhaps you want to be one of them as well. However, it is wise if you equip yourself with sufficient knowledge on FX option trading before you jump into the pool of this FX derivative market.

FX option trading mainly has two types: traditional and SPOT, an abbreviation of Single Payment Option Trading. So you have to keep in your mind that the term of SPOT is different with spot as in FX spot market. Both of this type has its own advantages and disadvantages as we have discussed on previous articles. In this article we will get deeper knowledge on traditional FX option trading, especially the two styles of traditional options.

Traditional options enable investors to purchase a right to buy an asset from the option seller at a set of price and time frame. Obviously, in FX market the asset is a certain currency and the set price is a certain exchange rate. Just for refreshing your mind, when you want to purchase a right to buy then you buy call option and the opponent is put option. Here in traditional option we also know about two styles which are used in FX option trading, they are American style and European style.

American style is a traditional option which the holder can exercise it anytime during its lifetime or until its maturity. For example, you buy a call option for EUR/USD at 1.3000 and expiration date is 3 months after you purchased it. When this pair eventually surges to 1.4000 a month after purchasing date and you see and feel it’s the time to exercise your option then you are allowed to do it as you don’t have to wait until its expiration date as stated on your agreement.

Meanwhile European style is a traditional option which the holder is allowed to exercise only at its maturity or expiration date. Compared to American style, European style sometimes trade at a discount. The reason is American style options give more flexibility to exercise it. However, a buyer of a European style option can sell it to close the position if he/she doesn’t want to wait until expiration date. Now you already know on the two styles, now you can pick out which style will the best for your FX trading option profile.

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