Foreign Exchange
Financial Engineering
Hedge Currency Receivables with a Purchased Reverse Knock In Put
• Unlimited Benefit if Currency Appreciates
• Upfront Premium Lower than Regular Put
Option
• Unhedged Range Determined by Hedger
Profile of a Put Option with a
Reverse Knock In to Hedge a
Currency Receivable
Product Description
A put option with a reverse knock in allows a buyer the
right, but not the obligation, to sell a fixed amount of one
currency for another at a set strike price on a specific
future date. The option does not become effective,
however, unless spot reaches the predetermined knock
in trigger. The premium of a put option with a reverse
knock in costs less than a premium for a regular put
option with the same strike. Unlike a knock in whose
trigger event occurs out-of-the-money, the reverse knock
in must be in the money when the trigger event occurs.
The buyer of the put is not obligated at any time to sell
the underlying currency. If spot never reaches the
reverse knock in trigger prior to expiration, the holder of
the put can sell currency at the current market.
However, if spot trades at or below the trigger before
expiry, the option becomes effective with all the
characteristics of a regular put option.
0
P & L+
Loss Protection Range with
Reverse Knock In Event
Benefit Range
Unhedged
Range
Trigger Strike
Put Strike
Receivable & Hedge
Currency Receivable
Foreign Currency
+
Currency Receivable with Trigger Event
Reverse Knock In Put Options as a Hedge
A holder of a currency receivable would purchase a put
option with a reverse knock in to hedge against a
currency’s depreciation while allowing for unlimited
benefit from the currency’s appreciation. In exchange
for a reduced premium, the buyer assumes the limited
risk that the currency may depreciate up to but not touch
the trigger. If a trigger event occurs, the value of the put
will immediately offset the negative move in the currency
exposure, less the premium paid, bel