GLOSSARY

To replicate the payout of an option bybuying or selling other instruments.Creating a synthetic option in this way is  always possible in a complete market. In the case of dynamic replication this involves dynamically buying or selling the underlying (or normally, because of cheaper transaction costs, futures) in proportion to an option’s delta. In the case of static replication the option(usually an exotic option) is  hedged with a basket of standard options whose composition does not change with time – eg, an at-expiry digital option can be replicated with a call spread.