ABSTRACT
Exotic options are a generic name given to derivative securities that have more complex cashflow structures than standard puts and calls. The principal motivation for trading exotic options is that they permit a much more precise articulation of views on future market behavior than those offered by "vanilla" options. Like standard options, exotics can be used as part of a risk-management strategy or for speculative purposes. From the investor's perspective, some exotics provide high leverage because they can focus the payoff structure very precisely (this is the case of barrier options discussed below). Exotics are usually traded over the counter and are marketed to sophisticated corporate investors or hedge funds. Dealers are generally banks or investment houses. They manage their risk-exposure by
Making two-way markets and attempting to be market-neutral as much as possible,
Hedging with "vanilla" options as well as cash instruments.
