Derivatives 2006 2007 01 Introduction

Information about Derivatives 2006 2007 01 Introduction

Published on April 22, 2008

Author: Amateur

Source: authorstream.com

Content

Derivatives Introduction :  Derivatives Introduction Professor André Farber Solvay Business School Université Libre de Bruxelles 1.Introduction:  1.Introduction Outline of this session Course outline Derivatives Forward contracts Options contracts The derivatives markets Futures contracts Slide3:  Reference: John HULL Options, Futures and Other Derivatives, Sixth edition, Pearson Prentice Hall 2006 or John HULL Options, Futures and Other Derivatives, Fifth edition, Prentice Hall 2003 Copies of my slides will be available on my website: www.ulb.ac.be/cours/solvay/farber Grades: Cases: 30% Final exam: 70% Course outline:  Course outline Derivatives:  Derivatives A derivative is an instrument whose value depends on the value of other more basic underlying variables 2 main families: Forward, Futures, Swaps Options = DERIVATIVE INSTRUMENTS value depends on some underlying asset Forward contract: Definition:  Forward contract: Definition Contract whereby parties are committed: to buy (sell) an underlying asset at some future date (maturity) at a delivery price (forward price) set in advance The forward price for a contract is the delivery price that would be applicable to the contract if were negotiated today (i.e., it is the delivery price that would make the contract worth exactly zero) The forward price may be different for contracts of different maturities Buying forward = "LONG" position Selling forward = "SHORT" position When contract initiated: No cash flow Obligation to transact Forward contract: example:  Forward contract: example Underlying asset: Gold Spot price: $380 / troy ounce Maturity: 6-month Size of contract: 100 troy ounces (2,835 grams) Forward price: $390 / troy ounce Profit/Loss at maturity ST ST Gain/Loss 390 390 Gain/Loss Long Short Derivatives Markets:  Derivatives Markets Exchange traded Traditionally exchanges have used the open-outcry system, but increasingly they are switching to electronic trading Contracts are standard there is virtually no credit risk Over-the-counter (OTC) A computer- and telephone-linked network of dealers at financial institutions, corporations, and fund managers Contracts can be non-standard and there is some small amount of credit risk Europe Eurex:http://www.eurexchange.com/ Liffe: http://www.liffe.com Matif : http://www.matif.fr United States Chicago Board of Trade http: //www.cbot.com Evolution of global market:  Evolution of global market Global Market Size:  Global Market Size Source: BIS Quarterly Review, June 2006 – www.bis.org Why use derivatives?:  Why use derivatives? To hedge risks To speculate (take a view on the future direction of the market) To lock in an arbitrage profit To change the nature of a liability To change the nature of an investment without incurring the costs of selling one portfolio and buying another Forward contract: Cash flows:  Forward contract: Cash flows Notations ST Price of underlying asset at maturity Ft Forward price (delivery price) set at time t<T Initiation Maturity T Long 0 ST - Ft Short 0 Ft - ST Initial cash flow = 0 :delivery price equals forward price. Credit risk during the whole life of forward contract. Forward contract: Locking in the result before maturity:  Forward contract: Locking in the result before maturity Enter a new forward contract in opposite direction. Ex: at time t1 : long forward at forward price F1 At time t2 (<T): short forward at new forward price F2 Gain/loss at maturity : (ST - F1) + (F2 - ST ) = F2 - F1 no remaining uncertainty Futures contract: Definition:  Futures contract: Definition Institutionalized forward contract with daily settlement of gains and losses Forward contract Buy  long sell  short Standardized Maturity, Face value of contract Traded on an organized exchange Clearing house Daily settlement of gains and losses (Marked to market) Example: Gold futures Trading unit: 100 troy ounces (2,835 grams) July 3, 2002 Futures: Daily settlement and the clearing house :  Futures: Daily settlement and the clearing house In a forward contract: Buyer and seller face each other during the life of the contract Gains and losses are realized when the contract expires Credit risk BUYER  SELLER In a futures contract Gains and losses are realized daily (Marking to market) The clearinghouse garantees contract performance : steps in to take a position opposite each party BUYER  CH  SELLER Futures: Margin requirements:  Futures: Margin requirements INITIAL MARGIN : deposit to put up in a margin account MAINTENANCE MARGIN : minimum level of the margin account MARKING TO MARKET : balance in margin account adjusted daily Equivalent to writing a new futures contract every day at new futures price (Remember how to close of position on a forward) Note: timing of cash flows different + Size x (Ft+1 -Ft) -Size x (Ft+1 -Ft) LONG(buyer) SHORT(seller) Time Margin IM MM Valuing forward contracts: Key ideas:  Valuing forward contracts: Key ideas Two different ways to own a unit of the underlying asset at maturity: 1.Buy spot (SPOT PRICE: S0) and borrow => Interest and inventory costs 2. Buy forward (AT FORWARD PRICE F0) VALUATION PRINCIPLE: NO ARBITRAGE In perfect markets, no free lunch: the 2 methods should cost the same. You can think of a derivative as a mixture of its constituent underliers, much as a cake is a mixture of eggs, flour and milk in carefully specified proportions. The derivative’s model provide a recipe for the mixture, one whose ingredients’ quantity vary with time. Emanuel Derman, Market and models, Risk July 2001 Discount factors and interest rates:  Discount factors and interest rates Review: Present value of Ct PV(Ct) = Ct × Discount factor With annual compounding: Discount factor = 1 / (1+r)t With continuous compounding: Discount factor = 1 / ert = e-rt Forward contract valuation : No income on underlying asset:  Forward contract valuation : No income on underlying asset Example: Gold (provides no income + no storage cost) Current spot price S0 = $300/oz Interest rate (with continuous compounding) r = 5% Time until delivery (maturity of forward contract) T = 1 Forward price F0 ? Strategy 2: buy spot and borrow Buy spot Borrow Strategy 1: buy forward Forward price and value of forward contract:  Forward price and value of forward contract Forward price: Remember: the forward price is the delivery price which sets the value of a forward contract equal to zero. Value of forward contract with delivery price K You can check that f = 0 for K = S0 e r T Arbitrage:  Arbitrage If F0 ≠ S0 e rT : arbitrage opportunity Cash and carry arbitrage if: F0 > S0 e rT Borrow S0, buy spot and sell forward at forward price F0 Reverse cash and carry arbitrage if S0 e rT > F0 Short asset, invest and buy forward at forward price F0 Arbitrage: examples:  Arbitrage: examples Gold – S0 = 300, r = 5%, T = 1 S0 erT = 315. 38 If forward price = 320 Buy spot -300 +S1 Borrow +300 -315.38 Sell forward 0 +320 – S1 Total 0 + 4.62 If forward price = 310 Sell spot +300 -S1 Invest -300 +315.38 Buy forward 0 S1 – 310 Total 0 + 5.38

Related presentations


Other presentations created by Amateur

Time Management
19. 06. 2007
0 views

Time Management

genitourinary surgery
30. 04. 2008
0 views

genitourinary surgery

musso
28. 04. 2008
0 views

musso

JBEIT Procurement
18. 04. 2008
0 views

JBEIT Procurement

Rodgers
17. 04. 2008
0 views

Rodgers

IPsec Business
16. 04. 2008
0 views

IPsec Business

1narongchai
14. 04. 2008
0 views

1narongchai

ch03 4e sp07
13. 04. 2008
0 views

ch03 4e sp07

EntretiensMD 061005 VA
10. 04. 2008
0 views

EntretiensMD 061005 VA

The story of Abraham 3 10
19. 06. 2007
0 views

The story of Abraham 3 10

low cost strategy 040405
13. 03. 2008
0 views

low cost strategy 040405

PP Latin America Unit XX
22. 10. 2007
0 views

PP Latin America Unit XX

C6436 11th Family
24. 02. 2008
0 views

C6436 11th Family

reniers film history
20. 02. 2008
0 views

reniers film history

08 Osborne Use of Methanol
07. 11. 2007
0 views

08 Osborne Use of Methanol

Notes Japan
09. 10. 2007
0 views

Notes Japan

Pablo NERUDA
16. 10. 2007
0 views

Pablo NERUDA

indiaglorious
16. 10. 2007
0 views

indiaglorious

Greeklegacies
17. 10. 2007
0 views

Greeklegacies

CRP 1000 Presentation
19. 10. 2007
0 views

CRP 1000 Presentation

CrossingtheFinishLine
05. 09. 2007
0 views

CrossingtheFinishLine

RAI Status Report
23. 10. 2007
0 views

RAI Status Report

distribution aufait
23. 10. 2007
0 views

distribution aufait

comma
05. 09. 2007
0 views

comma

MIE2006 Workshop
05. 09. 2007
0 views

MIE2006 Workshop

PlenaryPovertyNarayan
29. 11. 2007
0 views

PlenaryPovertyNarayan

ubicomp smart homes
27. 08. 2007
0 views

ubicomp smart homes

ShirleyJackson
27. 08. 2007
0 views

ShirleyJackson

Culture Conflict Resolution
27. 08. 2007
0 views

Culture Conflict Resolution

Ed Moyle 2006 RSA
27. 08. 2007
0 views

Ed Moyle 2006 RSA

anxiety
27. 08. 2007
0 views

anxiety

NYpanel 4 DATAUSE
05. 09. 2007
0 views

NYpanel 4 DATAUSE

Influenza 2006
25. 10. 2007
0 views

Influenza 2006

mals russia trip
26. 10. 2007
0 views

mals russia trip

geneticAlgorithm
29. 10. 2007
0 views

geneticAlgorithm

june7
15. 11. 2007
0 views

june7

The Romans WWtbaM
14. 12. 2007
0 views

The Romans WWtbaM

Lsn 3 Egypt
10. 10. 2007
0 views

Lsn 3 Egypt

Economics of ClimateChange
30. 12. 2007
0 views

Economics of ClimateChange

Amateur Satellites
03. 01. 2008
0 views

Amateur Satellites

bio refinery
03. 01. 2008
0 views

bio refinery

Nobelpreise
15. 10. 2007
0 views

Nobelpreise

Impact of Metrology Eng
22. 10. 2007
0 views

Impact of Metrology Eng

DensityNotes
06. 11. 2007
0 views

DensityNotes

All Star Grill
17. 12. 2007
0 views

All Star Grill

Slivovsky CPE350 Lecture5
07. 01. 2008
0 views

Slivovsky CPE350 Lecture5

Obesity Trends Map
09. 08. 2007
0 views

Obesity Trends Map

Obesity Prevalence
09. 08. 2007
0 views

Obesity Prevalence

Logics of Enquiry
09. 08. 2007
0 views

Logics of Enquiry

Obesity workshop
09. 08. 2007
0 views

Obesity workshop

CAIRO NOTABLE EARTHQUAKES
23. 11. 2007
0 views

CAIRO NOTABLE EARTHQUAKES

Robotalk
03. 01. 2008
0 views

Robotalk

Potts Whipple
12. 10. 2007
0 views

Potts Whipple

07 wifi Hovis
29. 10. 2007
0 views

07 wifi Hovis

prop50information
03. 01. 2008
0 views

prop50information

Angola MTB
19. 10. 2007
0 views

Angola MTB

PP JA FUENTES
22. 10. 2007
0 views

PP JA FUENTES

cowie
19. 11. 2007
0 views

cowie

myers12
09. 08. 2007
0 views

myers12

wehrle
15. 10. 2007
0 views

wehrle

4B2006
22. 10. 2007
0 views

4B2006

Energizing your online presence
27. 08. 2007
0 views

Energizing your online presence

PRC56 Amanda open
27. 09. 2007
0 views

PRC56 Amanda open

ufrj 2003
28. 12. 2007
0 views

ufrj 2003

voting
27. 08. 2007
0 views

voting

copyright law
30. 10. 2007
0 views

copyright law

My name is Meth
02. 10. 2007
0 views

My name is Meth

PAAB Presentation Kelly
27. 02. 2008
0 views

PAAB Presentation Kelly

healthy eating SC
04. 03. 2008
0 views

healthy eating SC

Future Naval Capabilities
06. 03. 2008
0 views

Future Naval Capabilities

FP7 FAFB Information 2
27. 11. 2007
0 views

FP7 FAFB Information 2

RigandShip experience
07. 11. 2007
0 views

RigandShip experience

MORTON
07. 11. 2007
0 views

MORTON

Pakistan RSpresentation
30. 03. 2008
0 views

Pakistan RSpresentation

Preciosa factura 1949
19. 06. 2007
0 views

Preciosa factura 1949

Postales de Amistad 1970
19. 06. 2007
0 views

Postales de Amistad 1970

Kickoff Presentation 2007
30. 10. 2007
0 views

Kickoff Presentation 2007

Simplemente Espectacular 1 1714
19. 06. 2007
0 views

Simplemente Espectacular 1 1714

Regalos Originales
19. 06. 2007
0 views

Regalos Originales

Regalito 1713
19. 06. 2007
0 views

Regalito 1713

realidad
19. 06. 2007
0 views

realidad

Toda mujer deberia 1971
19. 06. 2007
0 views

Toda mujer deberia 1971

The three wise men 2 of 12
19. 06. 2007
0 views

The three wise men 2 of 12

Tanga mania 2016
19. 06. 2007
0 views

Tanga mania 2016

srs presentation
19. 06. 2007
0 views

srs presentation

SOAP
19. 06. 2007
0 views

SOAP

slideshoweou
19. 06. 2007
0 views

slideshoweou

HEARTof Darkness pres2
27. 08. 2007
0 views

HEARTof Darkness pres2

smpp tuberculosis janssens
15. 10. 2007
0 views

smpp tuberculosis janssens

AFD 070425 016
27. 08. 2007
0 views

AFD 070425 016

Rocks and Minerals
15. 10. 2007
0 views

Rocks and Minerals

corso studi fisica
15. 10. 2007
0 views

corso studi fisica

TL China
25. 03. 2008
0 views

TL China

Proverbios Animados 1951
19. 06. 2007
0 views

Proverbios Animados 1951

errors funny fatal
27. 08. 2007
0 views

errors funny fatal

20060828091411514
12. 10. 2007
0 views

20060828091411514

08 Neil Scales
16. 11. 2007
0 views

08 Neil Scales

Refleja Lo Que Piensas 1954
19. 06. 2007
0 views

Refleja Lo Que Piensas 1954

Recomenzar 1911
19. 06. 2007
0 views

Recomenzar 1911

ATAMS Pre Bid Presentation 2
28. 02. 2008
0 views

ATAMS Pre Bid Presentation 2

Newspapers drive sales for web2
04. 10. 2007
0 views

Newspapers drive sales for web2

Koonce et al Poster
09. 08. 2007
0 views

Koonce et al Poster

kottmann pl
18. 03. 2008
0 views

kottmann pl

The Lizards
19. 06. 2007
0 views

The Lizards

vet2
21. 10. 2007
0 views

vet2

Burger Ch07 Magnetics
05. 01. 2008
0 views

Burger Ch07 Magnetics

Robo en cajeros II 2080
19. 06. 2007
0 views

Robo en cajeros II 2080

Robo en cajeros 1908
19. 06. 2007
0 views

Robo en cajeros 1908

Quien Snoopy 1952
19. 06. 2007
0 views

Quien Snoopy 1952

hietala materiaali
27. 08. 2007
0 views

hietala materiaali

Lilas
09. 08. 2007
0 views

Lilas

454
16. 03. 2008
0 views

454

thor
05. 09. 2007
0 views

thor

Para enviar 1934
19. 06. 2007
0 views

Para enviar 1934

aug12 rita VeenaJha
17. 10. 2007
0 views

aug12 rita VeenaJha

Posiciones incorrectas 2012
19. 06. 2007
0 views

Posiciones incorrectas 2012

Heminger IBTTA VII
14. 11. 2007
0 views

Heminger IBTTA VII

PowerPointslaveshipi nternet
27. 08. 2007
0 views

PowerPointslaveshipi nternet

educators presentation
16. 02. 2008
0 views

educators presentation

Diversity in the Family
24. 02. 2008
0 views

Diversity in the Family