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Example 3: A Contrarian View On The Euro With Long FXE Call Options
A contrarian view on the EUR/USD spot rate could be implemented by purchasing FXE outright. However, a long FXE position has full downside exposure should the euro continue to decline. Instead, a call option on FXE would provide a limited-loss way to take advantage of upside in the euro. Figure 11 shows the profit and loss of a hypothetical at-the-money call option on FXE compared with purchasing FXE outright. In this example, we assume FXE is at $124, and the call option purchased is struck at-the-money for a cost of $1.00. If the euro appreciates, the call option participates in the upside (less the amount paid for the call option up front). If the euro continues its decline, however, the losses are limited to the upfront premium.