Understand the product, research the trade, define the risk/reward, stick to the game plan.

- Peter Bottini

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June 19, 2007

Trade FX Options
Sign-up now for live FX Options Webinars. Learn to trade your views on the strength or weakness of the U.S. Dollar. With ISE FX Options™ you have exposure to rate movements in the global foreign currency market.

6/26/07: How News Affects FX Options
7/10/07: Trading Credit Spreads Using FX Options

Follow this link for a complete list of upcoming Webinars.

www.isefxoptions.com

On June 1, 2006 the NYSE Group, Inc. (NYSE: NYX) and Euronext N.V. announced a merger of equals, creating a global marketplace for trading cash and derivatives securities. On April 30, 2007, Deutsche Boerse AG, the Frankfurt-based exchange operator, agreed to purchase International Securities Exchange Holdings Inc. for $2.8 billion in cash, a combination which would create the largest transatlantic derivatives marketplace. On May 30, 2007, the Chicago Board Options Exchange got involved in the ICE/CME battle for CBOT by joining with ICE to help settle a long standing disagreement over exercise rights. Why all the consolidation? What will the future of exchanges look like? More importantly, what does all of this mean for the retail investor?

Put simply, more choices. Since the tech bubble burst in 2000, there has been rapid growth in the number of “self-directed” investors in the United States. For several reasons, these individuals have decided to control their own investment decisions and often seek educational opportunities on using new products to implement their strategies. They are often willing to take more risk in search of greater return, but they also develop well defined risk strategies to minimize exposure. The term “diversified portfolio” no longer describes a basket of cash, fixed income and US stocks; but rather, a basket of assets that can include options, ETFs, futures, currencies and foreign securities. In many ways, the retail investor led the way for the institutions that are now rushing into multi-asset investing.

Exchanges see this shift as an opportunity. Finding partners that can help them offer more asset classes, in their minds, is paramount to their success. The current multiples of the public exchanges reflect this. At the same time, brokers are busy integrating these asset classes into their own platforms. Customers are asking for more products, on one fully integrated platform, with a robust education piece attached to each new product. They are embracing the opportunities to broaden their exposure and dampen their risk.

While several exchanges are partnering to add asset classes, some exchanges are expanding into new classes on their own. Options exchanges such as PHLX, CBOE and ISE have all begun trading equities on their own equity exchanges. CBOE has launched the CBOE Futures Exchange specializing in Volatility products and PHLX has resurrected the Philadelphia Board of Trade to trade currency futures. At the same time, ETFs such as GLD (Streettracks Gold Trust) have been introduced which trade and clear like an equity but track very closely to the performance of a commodity. Finally, the ISE and PHLX have introduced FX options which offer exposure to foreign exchange in a fully displayed marketplace. These options look very similar to traditional equity and index options and clear in a securities account.

ISE FX Options™ were developed with the retail investor in mind. The ISE changed how some of the exchange rates were expressed to make it simpler for the retail customer to understand. All ISE FX Options are based on an underlying exchange rate that is US dollar based. This means when calculating the exchange rate value, the dollar is in the numerator. As the dollar strengthens, the index will rise. A bullish outlook on the dollar will lend itself to call buying or put selling. These options are cash settled and European style exercise (cannot be exercised before expiration). The current listings are US dollar versus the Euro (EUI), British Pound (BPX), Yen (YUK), and Canadian dollar (CDD). Let’s explore some strategies using these products.

RETAIL CUSTOMER HEDGE EXAMPLE

Greg has just retired from his job and has recently sold his house in Ontario, Canada. He plans to move to Florida and take residence in a second property that he has owned for some time. He has not yet closed on his house, but since he made the decision to sell the house the Canadian dollar has strengthened considerably against the US dollar.

If you cannot view the ISE Canadian Dollar FX (CDD) Chart, go here.

He would like to take advantage of this move and knows he can convert to US dollars when he closes in mid-August. Being a typical savvy self-directed Canadian investor, he has a US brokerage account and access to the US markets. He pulls up the option chain for CDD and sees he can effectively collar his exposure by selling the August 105.50 put while purchasing the August 106.50 call, with the CDD current price at $105.79. At current option prices, he can do this for a $.30 credit. From the profit/loss chart below, you can see that he has effectively locked in a price of $105.20, which is his breakeven on the options position.  If the US dollar continues to fall, the losses in his options positions will negate the gains from his Canadian dollars he will get at closing, and the gains in his options positions will offset the losses from the Canadian dollars converted at closing.

If you cannot view the ISE Canadian Dollar FX (CDD) Profit/Loss chart, go here.

RETAIL CUSTOMER GENERAL HEDGE EXAMPLE

Eileen lives in Northern Ireland and frequently travels to the US to visit family. Her recent visits have cost her less due to the weakness of the dollar.

If you cannot view the ISE British Pound FX (BPX) chart, go here.

She does not have a specific budget for her trips but estimates she’ll spend $20,000 US total over the next ten years. She thinks the dollar will rally significantly in the near term, and wants to convert some pounds to dollars for these expenses. She expects to be liquid enough to convert some euros at year end. She looks at a chain for BPX and sees the December $48.50 call is offered at $2.10 with BPX=50.24. She buys 2 contracts, for an outlay of $420, with upside participation in a dollar rally.

If you cannot view the ISE British Pound FX (BPX) Profit/Loss chart, go here.

RETAIL CUSTOMER SPECULATION EXAMPLE

Morgan is a banker in Germany who likes to follow the Dollar/Euro exchange rate. He does not think the rate will drop below .7400 dollar/euro in the near-term.

If you cannot view the ISE Euro FX (EUI) chart, go here.

He sees the July 74-73.50 put spread bid $.15, so he sells it 50x through his broker. He is risking $1750 ($2500-$750) to get $750, which would be a 42 percent gain over 44 days.

If you cannot view the ISE Euro FX (EUI) Profit/Loss chart, go here.

These are three examples of the opportunities for the retail investor in the ISE FX Options. Obviously, more products mean more choices as well as more opportunity to diversify. With these new varied products comes a need to educate and understand the differences before investing. To learn more about ISE FX Options, visit www.isefxoptions.com.

Mr. Bottini is Executive Vice President of Trading/Customer Service at optionsXpress, Inc, an online broker specializing in options for the retail investor. He is responsible for all option, equity, fixed income, futures, and mutual fund trade executions and reviews, block executions, portfolio margining, auto-trade, customer service, routing, and institutional sales. Mr. Bottini was a market-maker on the floor of the CBOE from 1993 until 2001. He was with Botta Trading from 1993 until 1998, serving as a Director from 1996 to 1998. He was an independent market-maker from 1999 until March 2001, when he joined GBAR to run their DPM. He is currently on the SIFMA Options Committee and was Chairman of the ISE Allocation Committee. Active in the Chicago community, Mr. Bottini is a current member of the St.Josaphat School Board and coach of the JV Girls Basketball team. He graduated from the University of Notre Dame in 1991. Mr. Bottini has been a director of ISE LLC since May 2006.

ISE FX Options™, the ISE globe logo, International Securities Exchange® and ISE® are trademarks of the International Securities Exchange, LLC. Options involve risk and are not suitable for all investors. Prior to buying or selling an option, a person must receive a copy of Characteristics and Risks of Standardized Options. Copies of the document may be obtained from your broker or from the International Securities Exchange by calling (212) 943-2400 or by writing the Exchange at 60 Broad Street, New York,  NY 10004. © 2007, International Securities Exchange, LLC. All rights reserved.