Barrier Options:

As in the vanilla options, the option buyer has a right to buy or sell an underlying asset from a strike price level at the end of the pre defined expiry date.

On the other hand, there is a contidion about the path of the underlying asset during the option period for the barrier option to be exercised. If the condition is not satisfied option buyer can not exercise the option even if at the end of the period strike price is in the money according to the spot price and option ends worthless.

There are two conditions defined for the barrier options. One is “Knock In” condition and the other is “Knock Out” condition.

If barriers are not defined as European (condition will be checked only at expiry date) they are accepted as American. (condition will be checked for the whole period from trade date to expiry date).

Since there is a condition for the option to be exercised, prices of the barrier options are cheaper than the vanilla options.
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