A forward start option is the forward purchase of a standard call option (ie right to buy) or put option (ie right to sell). On the forward start date the strike price of the option will be set at a predetermined level. Typically this is the spot price of the asset on the forward start date (ie at-the-money), alternatively the strike price can be set at a percentage in or out of the money (ie a percentage above or below the current spot price of the asset).
Forward Start Options are often combined in a series into a Ratchet Option (also called cliquet or reset options) with each option commencing with an at-the-money strike when the previous option expires. The result of this is a single option which allows the investor to lock in profits over the life of the option.
DerivativeOne features a free Forward Start Option valuation tool