Investments, tenth edition

 Figure 20.13 

Collateralized loan.  Panel A,  Payoff to collateralized loan.  Panel B,  

Lender can be viewed as collecting the collateral from the borrower, but issuing 

an option to the borrower to call back the collateral for the face value of the 

loan.  Panel C,  Lender can be viewed as collecting a risk-free loan from the bor-

rower, but issuing a put to the borrower to sell the collateral for the face value 

of the loan.  

L

L

S

T

L dollars minus the payoff to 

the implicit put option

Payoff to a put with

exercise price L

Payoff

L

L

S

T

S

T

 dollars minus the payoff

to the implicit call option

Payoff to call with exercise price L

Payoff

A

B

C

Payoff

L

L

S

T

Payoff to lender

When S

T

 exceeds L, the loan is repaid and the collateral is reclaimed. Otherwise,

the collateral is forfeited and the total loan repayment is worth only S

T

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  Options Markets: Introduction

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