mike (don_negro) wrote,

I know things

T-Bill options are based on the $1,000,000 face-value 13-week T-Bill, and the options premium is quoted as decimal percentage. Each basis point corresponds to $25 of premium. If the premium is 1.35, the cost of the option is $3,375 (135x25) This is because 1 1/100th of a percent of 1,000,000 should be 100, but as the T-Bill in question is a 13-week T-Bill, it's actually 1/4th of that -- a mere 25% of your expectation. This is because prices for T-bills are quoted in terms of discounted yield, and yield is always expressed on an annualized percentage basis - even though the benchmark for the options is the 13-week T-Bill.

T-Note and Bond Options are based on the $100,000, and the premiums are quoted as a percentage of par, where the numbers after the decimal indicate 32nds of a percent. (the price 1.31 is followed by 2) As the par value is 100,000, each percent equals $1,000, and each of these faux basis points is worth $31.25 in actual dollar terms. Also, remember that bonds are quoted by the interest they pay (the yield) and that when interest rate's fall, the price rises because the old higher yielding bonds are now worth more. This price rise causes them to yield less relative to the money required to purchase one. This makes perfect sense; it also lies in wait to trap the unwary word-problem examinee.

Good night.

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