A basket option is an option on a portfolio
of several underlying equity assets.
Payout for a basket option depends on the cumulative performance of the collection of
the individual assets. A basket option tends to be cheaper than the corresponding
portfolio of plain vanilla options for these reasons:
If the basket components correlate negatively, movements in the value of one
component neutralize opposite movements of another component. Unless all the
components correlate perfectly, the basket option is cheaper than a series of
individual options on each of the assets in the basket.
A basket option minimizes transaction costs because an investor has to
purchase only one option instead of several individual options.
For more information, see Basket Option.