Barrier option A ‘knock-out barrier option’ is a call or put option which may only be exercised at maturity if the price of the underlying never hits a pre-agreed barrier price H throughout the life of the option. Symmetrically, a ‘knock-in barrier option’ may only be exercised at maturity if the price of the underlying hits the barrier price H.

(a) Do you think barrier options should be:

(i) more expensive than plain vanilla options of same characteristics?

(ii) less expensive than plain vanilla options of same characteristics?

(iii) more expensive in some cases and less expensive in other cases? (Please specify.)

(b) In this question we consider calls with strike 100 and 1-month maturity. The underlying spot price is

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