Yushield – Financial Safety Starts Here

For market index–linked insurance products such as Indexed Universal Life (IUL) and Fixed Indexed Annuities (FIA), insurers typically purchase call options to capture potential gains when the market index increases. The illustration below demonstrates how insurers use call options to support policy growth.

🔹 1. What a Call Option Is

A call option gives the buyer the right, but not the obligation, to buy an asset (such as the S&P 500 index or an ETF like SPY) at a specific price (the strike price) on or before a specific date (the expiration date).

It’s like “reserving” the chance to buy the market at a fixed price — you pay a premium (cost) for that right.

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🔹 2. Using S&P 500 as an Example

Let’s say today:

• The S&P 500 index = 5300
• The account value linked to market index is $80,000
• The insurer uses all $80,000 to purchase low-rate-but-stable government bonds
• The bond yield rate is 5%, keeping 0.5% for the cost and/or margin 
• Thus, you have a $3,600 optionn budget to spend on options ($3,600 = $80,000 x [5%-0.5%])
• Suppose to buy SPX call options expiring in 3 months

Assume each SPX option contract covers the value of $100 × index level (this is standard for SPX options).

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🔹 3. Choose a Strike Price

You buy a call option with a strike price of 5300, meaning you have the right to “buy” the S&P 500 at 5300 before expiration.

Let’s say this call option costs $36 per index point (so one contract costs $36 × 100 = $3,600).

That uses your full budget.

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🔹 4. What Happens at Expiration

There are two possible outcomes:

✅ If the S&P 500 Rises

Suppose at expiration, S&P 500 = 5600.

Your call option is now in the money:

• You can “buy” at 5300 and immediately “sell” at 5600
• Your profit = (5600 – 5300) × 100 = $30,000

You paid $3,600 for the option, so:

📈 Net profit = $30,000 – $3,600 = $26,400
📈 ROI = 26,400 / 3,600 = +733%

You turned a $3,600 option into $30,000 of value — this is the leverage power of call options.

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❌ If the S&P 500 Falls or Stays Below 5300

Suppose at expiration, S&P 500 = 5000.

Then your right to buy at 5300 is worthless — nobody would pay more than the current market price.

• You lose your $3,600 premium, but nothing more.
• Loss is limited to your initial investment.

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🔹 5. Key Takeaways

Concept	Explanation
Premium (Cost)	The amount paid ($3,600) to buy the option.
Strike Price	The agreed level (5300) where you can buy the S&P 500.
Expiration	The date the option ends (e.g., 3 months).
Upside Potential	Theoretically unlimited (as S&P 500 can rise).
Downside Risk	Limited to the premium paid ($3,600).
Purpose	Speculation or hedging with leverage and defined risk.

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🔹 6. Professional Framing Example

“Think of a call option as locking in a potential future purchase price for the S&P 500. You pay a small amount upfront — like a deposit — for the right to benefit if the market rises. If it doesn’t, your loss is limited to that deposit.”

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🔹 7. Bonus: How Insurers Use This Concept

In fixed indexed annuities (FIAs) or indexed universal life (IUL) policies, insurance companies don’t buy the index itself — they use options like these to capture market upside with protection.

They use option budget as demonstrated above or allocate part of your premium to buy call options on an index (like S&P 500).
If the index rises, the option pays off → your policy gains.
If the index falls, the option expires worthless → you get floor protection.

Note: Insurance companies typically don’t buy just one SPX option; they typically reserve a sufficient options budget and use it to buy multiple SPX options. These options are often structured as a combination, such as buying in installments, or buying options with different maturities or strike prices.

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