strike price vs delivery price

Phoenixchui

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what is the difference between strike price and delivery price? Why do they sometimes all use "K" as a representation?
 

David Harper CFA FRM

David Harper CFA FRM
Staff member
Subscriber
Hi @Phoenixchui In a futures/forward contract the delivery price is often denoted with "K", and sometimes called a strike price, because it is analogous to an option's strike price: both a fixed, predetermined prices to buy/sell the underlying asset (one is an obligation, the other is right/choice). We don't need to do this, but it would be inconvenient and probably confusing. As of today, T0, there are futures prices on various commodities, such as for example I notice the one-year forward price on corn, F(1.0) = $6.46 per bushel (https://www.cmegroup.com/markets/agriculture/grains/corn.quotes.html).

If today you or me go long/short, then the prevailing forward price is the delivery price such that, today, K = F(1.0) = 6.46, which we can also signify F(Mar 2023). Go forward six months to Sep, when it will be a six-month contract, and can still be called F(Mar 2023) but, maybe at that future point in time, F(0.5) = 6.85. The contract is still for delivery at K = $6.46, and the "K" reminds us that this price is a feature of a contract. We could denote this price as F(-0.5, 0.5) = $6.46, to denote a futures contract that was entered six months prior and matures in six months, but it's more natural to denote the fixed delivery price as K = $6.46 and, notice, often without any time subscript. So, at any point in time, we distinguish between:
  • The delivery (or strike) price which is fixed. At contract inception we assume K = F(0, T) but subsequently F(0, T) will fluctuate
  • The current forward price, F(T) or F(0,T)
  • The value of the contract at any time, which might be denoted f(t) or V(T). I hope that's helpful,
P.S. My K = F(-0.5, 0.5) is a fictional illustration but I like how it illustrates that the delivery (aka, strike) price is essentially a "stale" forward price!
 
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