In finance, a forward start option is an
option that starts at a specified future date with an expiration date set further in the future.
A forward start option starts at a specified date in the future; however, the premium is paid in advance, and the time of expiration is established at the time the forward start option is purchased.
[Riskglossary.com](_blank)
/ref>
Pricing of Asset
Since the asset price at the start of this option is not known ''a priori
('from the earlier') and ('from the later') are Latin phrases used in philosophy to distinguish types of knowledge, Justification (epistemology), justification, or argument by their reliance on experience. knowledge is independent from any ...
'', it is common to specify that the strike price
In finance, the strike price (or exercise price) of an option is a fixed price at which the owner of the option can buy (in the case of a call), or sell (in the case of a put), the underlying security or commodity. The strike price may be set ...
will be set in the future, so that the option is initially at the money or a certain percentage in the money or out of the money.
This contract
A contract is an agreement that specifies certain legally enforceable rights and obligations pertaining to two or more parties. A contract typically involves consent to transfer of goods, services, money, or promise to transfer any of thos ...
can be used to give an investor
An investor is a person who allocates financial capital with the expectation of a future Return on capital, return (profit) or to gain an advantage (interest). Through this allocated capital the investor usually purchases some species of pr ...
exposure to forward volatility.
Example of Forward Start Option
Executive stock options can be viewed as a type of forward start option. This is because a company commits to granting at-the-money options to employees in the future.[Spirn, Daniel. (March 31, 2008). Options, Futures, Derivatives. School of Mathematics, University of Minnesota. Retrieved from http://www.math.umn.edu/~spirn/5076/Lecture16.pdf ]
Forward Start Options Series
A series of consecutive forward start options creates a cliquet option
A cliquet option or ratchet option is an exotic option consisting of a series of consecutive forward start options. The first is active immediately. The second becomes active when the first expires, etc. Each Option (finance), option is struck at-t ...
.
Valuation
In a Black–Scholes model, the value of the forward-start option is proportional to the asset price.
Therefore, the value of the forward-start option is a multiple of the current asset price, with that multiple depending on forward volatility.
References
Derivatives (finance)
{{econ-stub