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Quantitative Finance · Glossary

What is Average-price option?

Definition 12.2 Markets III: Commodities, Energy and Crypto · Chapter 12 — Commodity Options and Structured Hedges

An average-price option (APO) pays at expiry on the arithmetic average of a reference price over a period (a month, a quarter, a year) against its strike: a put pays max⁡(K−Pˉ,0)\max(K - \bar P, 0) per unit. It is the product commodity markets trade under that name; One Quant Book 5, chapter 16, prices the general Asian option.

The futures price at the end of a year and the average of its twelve monthly fixings, both starting at $60 with 35% volatility, 200 000 simulated paths in bins of $5: the average is far less dispersed, so options on it are cheaper. Illustrative; data: the chapter’s tutorial.
Figure 12.1. The futures price at the end of a year and the average of its twelve monthly fixings, both starting at $60 with 35% volatility, 200 000 simulated paths in bins of $5: the average is far less dispersed, so options on it are cheaper. Illustrative; data: the chapter’s tutorial.
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