A compound option is a type of option contract that gives the holder the right, but not the obligation, to buy or sell another option at a predetermined price. In essence, it is an option on an option. Compound options are used in various financial markets for risk exposure management and for speculation, including equities, currencies, commodities, and interest rates.
There are two types of compound options: a call-on-call option and a put-on-put option. A call-on-call option gives traders the right to buy another call option, while a put-on-put option gives traders the right to sell another put option.
Traders may use compound options to hedge against market uncertainty, as they offer more flexibility and customisability than simple options in managing risk exposure. Experienced traders who want to create complex strategies can also use compound options to take advantage of specific market conditions.
Compound options are not typically used by retail traders due to their complexity. However, they are popular with professional and institutional investors and hedge funds. Compound options are also used in corporate finance, particularly in the pricing of convertible bonds and other hybrid securities.
ADSS offers a range of global markets for traders, with opportunities in indices, commodities, forex, equities and more. We also feature tutorials, how-to guides, and weekly webinars to help you navigate the financial markets and find better trading opportunities. You can start trading and investing online by opening a live trading or demo trading account.