What is a 'Knock-In Option'
A knock-in option is a latent option contract that begins to function as a normal option ("knocks in") only once a certain price level is reached before expiration. Knock-in options are a type of barrier option that may be either down-and-in option or an up-and-in option. A barrier option is a type of contract in which the payoff depends on the underlying security's price and whether it hits a certain price within a specified period.
Explaining 'Knock-In Option'
There are two main types of barrier option: knock-in and knock-out options. Technically, a knock-in option is a type of contract that is not an option until a certain price is met, so if the price is never reached it is as if the contract never existed. However, if the underlying asset reaches a specified barrier, the knock-in option comes into existence. The difference between a knock-in and knock-out option is that a knock-in option comes into existence only when the underlying security reaches a barrier, while a knock-out option ceases to exist when the underlying security reaches a barrier.
Down-and-In Option
For example, assume an investor purchases a down-and-in put option contract with a barrier price of $90 and a strike price of $100, when the underlying security was trading at $110, with three months until expiration. If the price of the underlying security reaches $90, the option comes into existence and becomes a vanilla option with a strike price of $100. Thereafter, the holder of the option has the right to sell the underlying asset at the strike price of $100. The put option remains active until the expiration date, even if the underlying security rebounds from $90. However, if the underlying asset does not fall below the barrier price at any point during the life of the contract, the down-and-in option expires worthless.
Up-and-In Option
Contrary to a down-and-in option, an up-and-in option comes into existence only if the barrier is reached, which is higher than the underlying asset's price. For example, assume a trader purchases a one-month up-and-in call option on an underlying asset when it was trading at $40 per share. The up-and-in call option contract has a strike price of $50 and a barrier of $55. If the underlying asset did not reach $55 at any point during the life of the option contract, it would expire worthless. However, if the underlying asset rose to $55 or greater, the call option would come into existence.
Knock In Option FAQ
What is knock in price?
A knock-in option is a contract type that is not recognized as an option until a specific price is met. So if the contract is never said to exist if the specific price is never met. However, if the underlying asset arrives at a predefined obstruction, the knock-in option comes into existence.
What is knock in knock out option?
Knock-in options is recognized only when a specific price set for the asset is met, while knock-out options cease to exist if the specific price is met
What is European knock in?
A European knock in (eki) is a vanilla option with a European barrier. That is, it only matters where the underlying asset is in relation to the barrier on the option's expiry date. If there is a payout, it is that of the underlying vanilla option.
Further Reading
Knock‐in American optionsonlinelibrary.wiley.com [PDF]… Knock-in options with a trigger clause are closely related to barrier options. Barrier options are common path-dependent options traded in the financial markets. The derivation of the price formula for barrier options was pioneered by Merton (1973) in his seminal paper on option …
Pricing and hedging of American knock-in optionsjod.pm-research.com [PDF]… Knock-in options with a trigger clause are closely related to barrier options. Barrier options are common path-dependent options traded in the financial markets. The derivation of the price formula for barrier options was pioneered by Merton (1973) in his seminal paper on option …
Static hedging and pricing American knock-in put optionswww.sciencedirect.com [PDF]… Knock-in options with a trigger clause are closely related to barrier options. Barrier options are common path-dependent options traded in the financial markets. The derivation of the price formula for barrier options was pioneered by Merton (1973) in his seminal paper on option …
One-touch double barrier binary option valueswww.tandfonline.com [PDF]… Knock-in options with a trigger clause are closely related to barrier options. Barrier options are common path-dependent options traded in the financial markets. The derivation of the price formula for barrier options was pioneered by Merton (1973) in his seminal paper on option …
Monte-Carlo importance sampling simulation method for pricing the European knock-in optionen.cnki.com.cn [PDF]… Knock-in options with a trigger clause are closely related to barrier options. Barrier options are common path-dependent options traded in the financial markets. The derivation of the price formula for barrier options was pioneered by Merton (1973) in his seminal paper on option …
Risk Management Lessons from 'Knock‐in Knock‐out'Option Disasteronlinelibrary.wiley.com [PDF]… Knock-in options with a trigger clause are closely related to barrier options. Barrier options are common path-dependent options traded in the financial markets. The derivation of the price formula for barrier options was pioneered by Merton (1973) in his seminal paper on option …
Pricing double barrier options using Laplace transformslink.springer.com [PDF]… Knock-in options with a trigger clause are closely related to barrier options. Barrier options are common path-dependent options traded in the financial markets. The derivation of the price formula for barrier options was pioneered by Merton (1973) in his seminal paper on option …
Pricing Parisan Optionsjod.pm-research.com [PDF]… Knock-in options with a trigger clause are closely related to barrier options. Barrier options are common path-dependent options traded in the financial markets. The derivation of the price formula for barrier options was pioneered by Merton (1973) in his seminal paper on option …
FAQ
What is knock in price?
A knock-in option is a contract type that is not recognized as an option until a specific price is met. So if the contract is never said to exist if the specific price is never met. However, if the underlying asset arrives at a predefined obstruction, the knock-in option comes into existence.
What is knock in knock out option?
Knock-in options is recognized only when a specific price set for the asset is met, while knock-out options cease to exist if the specific price is met
What is European knock in?
A European knock in (eki) is a vanilla option with a European barrier. That is, it only matters where the underlying asset is in relation to the barrier on the option's expiry date. If there is a payout, it is that of the underlying vanilla option.