Which one of the following four statements about the relationship between exchange rates and option values is correct?

Which one of the following four statements about the relationship between exchange rates and option values is correct?
A . As the dollar appreciates relative to the pound, the right to buy dollars at a fixed pound exchange rate decreases.
B . As the dollar appreciates relative to the pound, the right to buy dollars at a fixed pound exchange rate increases.
C . As the dollar depreciates relative to the pound, the right to buy dollars at a fixed pound exchange rate increases.
D . As the dollar appreciates relative to the pound, the right to sell dollars at a fixed pound exchange
rate increases.

View Answer

Answer: B

Explanation:

When the dollar strengthens against the pound, the value of an option that allows the purchase of dollars at a predetermined exchange rate increases. This is because the option provides the right to buy the appreciating dollar at a rate that becomes more favorable as the market rate moves higher.