Index Options Guide

What is an Index Option?

An Index Option is a contract that gives the holder the right to buy or sell the value of the underlying index at the specified strike price. Since Index Option are cash-settled, there is no transfer of any equity. Instead, there is a cash settlement given out to the holder based on the difference between the exercise settlement value and the strike price.

Index Option Terminology

i. Cash Settled Options:

A cash settled Option is a type of Option that, upon expiration/exercise, a cash settlement is paid out to the Option holder rather than a physical delivery of the underlying security. All index options fall under this categorisation. The way in which the cash settlement amount is calculated is by taking the difference between the strike price and the exercise settlement value, and multiplying that value by a multiplier (usually 100).

Example of a cash settled call:

A 100 XYZ cash-settled call Index Option has a multiplier of 100. The reported exercise settlement value is $105. This would mean the cash settlement value of the call Option is $500 [(105-100) x 100 = $500].

Example of a cash settled put:

A 100 XYZ cash-settled put Index Option has a multiplier of 100. The reported exercise settlement value of the put is $95. This would mean the cash settlement value of the put Option is $500 [(100-95) x 100 = $500].

ii. European Style Options:

European Style Options are Options that can only be exercised on the designated expiration date.

This is different from an American Style Option which allows the holder to exercise the Option any time up until and including the expiration date. However, holders of European Style Options can make a closing purchase/sale to cancel out their position.

Due to the limitation on the window in which you can exercise a European Style Option, European Options usually come with a lower premium than American Options.

iii. A.M. Settled Options:

A.M. Settled Options establish their exercise settlement value using the exercise settlement value which is posted about 30 minutes after the market opens on the day of expiration.

A.M. Settled Index Options stop trading the day before the expiration date. This means that the holder of the Option becomes captive to market forces, as a change in the price of the index on the morning of expiration can lessen the gain the holder expected to make, or even cause the exercise settlement value to fall below or above the strike price, turning the expected gain into a loss.

For A.M. Settled Index Options, cash will be credited immediately upon receipt of the quotation for the settlement index on the expiration date.

iv. P.M. Settled Options:

P.M. Settled Options establish their exercise settlement value through the index price at market close on the day of expiration.

P.M. Settled options allow for trading of the Option on the day of expiration up until market close.

P.M. Settled Options take away the overnight risk that comes with A.M. Settled Options, as the holder does not have to be worried about an overnight change in the price of the index.

For P.M. Settled Index Options, cash will be credited from your account on T+1 after settlement date.

Options are complex, high risk products and are not appropriate for all investors. You may lose all of your invested capital.

For more information, please refer to：Characteristics and Risks of Standarized Options