What is the meaning of Put-Call Parity?
This is a principle-based on the relationships of the European price on options and the call options of the same class. This is done with the same asset, strike price amount and expiration date. As per Put-call Parity, the holding of European put that is short and the long European call of the same class delivers the same return. It is done as by holding one forward contract ( means a customized contract between to parties to buy or sell some asset) on the same underlying asset and it also has the same expiration and the forward price (is a predicted delivery price of any commodity, currency or even a financial asset) is equal to the striking e price. In case the prices that are input and call options deviate for this relationship to not hold then an arbitrage (is purchase and sale of an asset to make a profit from a difference in assets price from the market) opportunities exist. This means that the worldly traders can earn risk-free profits and in such good opportunities are short-lived in liquid markets.
The equation of put-call parity – c+PV(x) = P +S
Here C means the price of the European call option and PV(x) means the present value of strike price that is x, discounted from the value of the expiration date from the risk-free rate, P means the price of European Put and S means Spot Price or you can say that the current market value of the underlying asset.
The put-call parity – understanding it
Where does the put-call parity apply? It applies to the only European options. This can only be used on the expiration date. It is not as the American options which can be used before.
Points to remember
Put or call parity only shows the relationship between the European put and call. These both have the same underlying asset and same expiration and even the same strike price.
It is said that the price of the call option can implement a specific price for the corresponding put option also which has the same strike price and expiration and vise verse is the same
And when the diversion of put and call happens the opportunity to arbitrage is emerged. This enables many traders to earn a good profit because of risk-free profit.
How does put call parity work