Chapter 7. Exotic Options

All derivatives are financial contracts, and in these contracts, there are far more features that can be agreed on than a simple right to buy or to sell. Complex payout structures can be engineered based on what-if scenarios; thus, the final payout of an exotic contract can be dependent on a whole set of circumstances. Often, even the path of the underlying has a serious influence on the final payout. Compared to these derivatives, the good old call and put options were soon seen simple, earning them a not too impressive nickname: plain vanilla.

Vanilla call and put options are like plain vanilla ice-creams, the simplest possible ice-cream without any fancy optional toppings. The expression "plain vanilla" is so strongly embedded in finance that it is even used in the bond market, where a vanilla bond is the simplest possible coupon-paying bond.

Any option that has some extras over the basic plain vanilla options belong to a very numerous group...