Derivatives & Risk Management

Lecture 1: Introduction

Prof. Maneesh Gupta

About this course

Syllabus
Futures and Forwards FRA, IRFs and Swaps Mechanics and properties of Options Option Strategies Option Pricing Models Option Greeks Option Volatility Models Value at Risk
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Prerequisites
Probability Theory Basic Statistics Time Value of Money Bond Mathematics Currency Mathematics Excel proficiency

Prof. Maneesh Gupta

Grading
1. 2.

Final Exam (written) Internals a. Mid Term exam (written) b.Attendance c. Project (Report + Presentation) d.Case let / Assignment / Class Test

60 marks 15 marks 10 marks 05 marks 10 marks 100 marks

Prof. Maneesh Gupta

Groups

Group 1: 01, 04, 09, 16, 25, 36, 49, 58 Group 2: 02, 05, 10, 17, 26, 37, 50 Group 3: 03, 06, 11, 18, 27, 33, 38, 51 Group 4: 07, 12, 19, 28, 39, 52, 57 Group 5: 08, 13, 20, 29, 40, 44, 48, 53 Group 6: 14, 21, 24, 30, 41, 54, 59 Group 7: 15, 22, 31, 34, 42, 46, 55, 60 Group 8: 23, 32, 35, 43, 45, 47,56

Prof. Maneesh Gupta

Format for Assignment

Covering page
Name of Institute Name of subject
Topic Assignment no. Submitted to : : : Prof. Maneesh Gupta

Name Roll no. Class Date

: : : :

Bibliography and Websites

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Course Readings
Options, Futures and Other Derivatives John C. Hull Option Volatility & Pricing Sheldon NatenBerg Understanding Options Robert Kolb Derivatives: The theory and practice of financial engineering Paul Wilmott

Prof. Maneesh Gupta

Few more books (Not to be readYou wont have so much time)

The complete guide to option pricing formulas Huag Fooled by Randomness Taleb The Black Swan Taleb Derivatives: The wild beast of Finance Steinherr

Prof. Maneesh Gupta

Basic Functions of Finance

Making Payments Providing Resources Transferring Resources Managing Risk Providing Price Information Creating Incentives

Prof. Maneesh Gupta

Steps towards managing Financial Risk

Diversification & Collateral Limited Liability, Seniority Rules, Balance Sheet Structure Creating tradable instruments & liquidity in organized markets Derivatives & Financial Engineering

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The Economic Rationale

Globalization
Technological advances A ripple in one part of the world may cause an earthquake in the other part Hand in hand with better Risk Management Innovations in Derivative instruments have been the driving force

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Is Derivatives the Wild Beast?

Nascent Stage Cost of Untradeable Risks Derivatives reduce Risk or CAN IT? Is Risk Management a fundamental Corporate objective?

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Why you should learn Derivatives

This course within finance

Corporate Finance Investment Analysis & Portfolio Management Market Microstructure

Where pieces of the puzzle fit in?

Pricing Microstructure & Investments Hedging Corporate, Banking & Investments All-in-one Cost of Capital Corporate
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Markets & Instruments

Types of Market
OTC Exchange Traded

Our Focus Derivatives on

Interest rates
Money Market Fixed income capital markets

Equities Currency Commodities

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What is Risk ?
Risk is the key concept of modern finance Absence of Risk i.e. a riskless asset A risky asset is one with uncertain future value Concept of Market Efficiency

Sticky concept Insider trading

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What are the types of Risk ?

Market risk Currency risk Credit risk Liquidity risk Operational risk Political risk

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Why is Risk Management important ?

For a/an
Individual investor Entrepreneur Bank
them
What risk they face How do they manage

Insurance company Investment firm Multinational company Country

Hand-written assignment to be submitted to C.R. before next Monday

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Some refresher questions (part of assignment)

Find the mean and s.d. for a normally distributed variable if values below 25% have average of 44 and values above 90% have average of 10 of the distribution. Ram borrows Rs. 20 lacs for 15 years @ 12% annual compounding. What will be the monthly installment? What is the price of a bond paying 7.5% coupons semiannually and a yield of 9% maturing after 7 years? If the same bond is trading at par, then what is the yield? Calculate three point arbitrage profit for an exposure of one million USD given that two banks Prof. Maneesh Gupta and 18 in N.Y. quoted USD/JPY=110.25/110.10