Currency Options Pricing Factors- Impact on Options Premium

A solid understanding of the factors that influence forex options pricing is important so that you can take advantage of price movements and maximize your profits from trades. Here are 5 key factors that influence the premium of call and put currency options:

Factors that influence the prices of currency options

1. Exchange Rate- The underlying currency option is the exchange rate of the respective currency. The exchange rate is directly related to the premium of the call option and inversely related to the put option. Any increase in the exchange rate of the underlying currency leads to an increase in the premium of the call option. An increase in the exchange rate of the underlying reduces the premium of the PUT option.
2. Strike Price- The price of the premium is inversely related to the strike price. An increase in the strike price therefore reduces the premium of a call option. In the case of a put option, the premium increases with an increase in the strike price.
3. Interest Rate- The interest rate of the economy has a direct influence on the price of currency options. If the interest rate rises, the cost of the investment increases. An increase in the interest rate therefore leads to an increase in the premium for a call option. For the put option, the premium decreases when the interest rate rises.
4. Time to maturity- Call and put options lose value the shorter the time to maturity. The longer the time to expiration of a currency option, the higher the premium. And it decreases the closer you get to the expiry date of the option.
5. Volatility- An increase in volatility signals a high degree of uncertainty regarding the exchange rate of the currency and therefore affects the value of an option. The price of the call option increases with higher volatility, while the price of the put option decreases.