Beruflich Dokumente
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B. B. Chakrabarti
Professor of Finance (Retd.)
Indian Institute of Management, Calcutta
Derivatives Markets
Two types:
Exchange traded and Over-the-counter (OTC)
Exchange traded
Exchanges mostly use electronic trading.
Contracts are standard, virtually no credit risk
Example: Futures, Options
Over-the-counter (OTC)
A computer- and telephone-linked network of dealers at
financial institutions, corporations, and fund managers
Financial institutions often act as market makers.
Contracts can be non-standard and there is some amount of
credit risk
Example: Swaps, FRAs, Exotic options
B. B. Chakrabarti: bbc@iimcal.ac.in
Types of Derivatives
B. B. Chakrabarti: bbc@iimcal.ac.in
Forward Contract
A forward contract is an agreement to buy or
sell an asset at a certain future time for a certain
price.
It can be contrasted with a spot contract, which
is an agreement to buy or sell an asset today.
The contract is between two financial
institutions or between a financial institution
and one of its corporate clients.
It is not traded on an exchange.
Forward contracts are particularly popular on
currencies and interest rates.
B. B. Chakrabarti: bbc@iimcal.ac.in
Terminology
Long position agrees to buy the underlying
asset on a certain specified future date for a
certain specified price.
Short position is the other party and agrees to
sell that asset on same future date for the same
price.
The specified price in a forward contract is
referred to as the delivery price.
B. B. Chakrabarti: bbc@iimcal.ac.in
Bid Price
61.85
62.80
Offer Price
62.10
63.15
K
Price of Underlying
at Maturity, ST
Price of Underlying
at Maturity, ST
K
Futures Contract
B. B. Chakrabarti: bbc@iimcal.ac.in
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Swaps
A swap is an agreement to exchange cash flows
at specified future times according to certain
specified rules.
Examples: Interest rate swap, currency swap etc.
B. B. Chakrabarti: bbc@iimcal.ac.in
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Options
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Options contd.
An American option can be exercised at any
B. B. Chakrabarti: bbc@iimcal.ac.in
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-C
ST
15
C
K
ST
16
K
-P
ST
17
P
K
ST
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Types of Traders
Hedgers
Speculators
Arbitrageurs
B. B. Chakrabarti: bbc@iimcal.ac.in
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Hedging
Hedgers are essentially spot market players.
Hedgers are interested in reducing price risk (that they already
face in the spot market) with derivative contracts and options.
Forward contracts are designed to neutralize risk by fixing the price
that hedger will pay or receive for the underlying asset.
Future contracts can be used to undertake minimum variation
hedging.
Option strategy enables the hedger to insure itself against adverse
exchange rate movements while still benefiting from favorable
movements.
B. B. Chakrabarti: bbc@iimcal.ac.in
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Speculation
Speculators wish to take a position in the
market either by betting that the price will go
up or down.
Futures and options can be used for speculation
When a speculator uses futures then the
potential gain or loss is high.
When a speculator uses options, speculators
loss is limited to the amount paid for the option.
B. B. Chakrabarti: bbc@iimcal.ac.in
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Arbitrageurs
Arbitrage involves locking in a riskless profit by
simultaneously entering into transactions in two
markets.
Example:
Consider a stock that is traded in both New York and London.
Suppose that the stock price is $172 in New York and 100
in London at a time when the exchange rate is $1.7500
per pound.
An arbitrageur could simultaneously buy 100 shares of the stock
in New York and sell them in London
He will obtain a risk-free profit of:
100*($1.75*100 $172) or $300 in the absence of transactions
costs.
B. B. Chakrabarti: bbc@iimcal.ac.in
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Problem No. 1
An investor enters into a short forward
contract to sell 100,000 British pounds for
US dollars at an exchange rate of 1.9000
US dollars per pound. How much does the
investor gain or loose if the exchange rate
at the end of the contract is (a) 1.8900 and
(b) 1.9200?
B. B. Chakrabarti: bbc@iimcal.ac.in
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B. B. Chakrabarti: bbc@iimcal.ac.in
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Problem No. 2
You would like to speculate on a rise in the
price of a certain stock. The current stock
price is $29, and a three-month call with a
strike of $30 costs $2.90. You have $5,800
to invest. Identify two alternative
strategies, one involving an investment in
the stock and the other involving
investment in the option. What are the
potential gains and losses from each?
B. B. Chakrabarti: bbc@iimcal.ac.in
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B. B. Chakrabarti: bbc@iimcal.ac.in
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Problem No. 3
Suppose that sterling-USD spot and forward
exchange rates are as follows:
Spot
90-day forward
180-day forward
2.0080
2.0056
2.0018
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The trader buys a 180-day call option and takes a short position in a 180day forward contract
If ST is the terminal spot price,
The profit from the call option is
= max (ST 1.97,0) 0.02
The profit from the short forward contract
= 2.0018 ST
The profit from the strategy is therefore
= max (ST 1.97,0) 0.02 +2.0018 ST
= max (ST 1.97,0) +1.9818 ST
This is
1.9818 ST
0.0118
when
when
ST < 1.97
ST > 1.97
The time value for money has been ignored in these calculations.
B. B. Chakrabarti: bbc@iimcal.ac.in
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The trader buys a 90-day put option and takes a long position in a 90-day
forward contract
If ST is the terminal spot price,
The profit from the put option is
= max (2.04 ST,0) 0.02
The profit from the long forward contract
= ST 2.0056
The profit from the strategy is therefore
= max (2.04 ST,0) 0.02 + ST 2.0056
= max (2.04 ST,0) + ST 2.0256
This is
ST 2.0256
0.0144
when
when
ST > 2.04
ST < 2.04
The time value for money has been ignored in these calculations.
B. B. Chakrabarti: bbc@iimcal.ac.in
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Problem No. 4
The price of gold is currently $600 per
ounce. The forward price for delivery in
one year is $800. An arbitrageur can
borrow money at 10% per annum. What
should the arbitrageur do? Assume that
the cost of storing gold is zero and that
gold provides no income.
B. B. Chakrabarti: bbc@iimcal.ac.in
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Problem No. 5
A bond issued by Standard Oil worked as follows. The
holder received no interest. At the bonds maturity the
company promised to pay $1,000 plus an additional
amount based on the price of oil at that time. The
additional amount was equal to the product of 170 and
the excess (if any) of the price of a barrel of oil at
maturity over $25. the maximum additional amount paid
was $2,550 (which corresponds to a price $40 a barrel).
Show that the bond is a combination of regular bond, a
long position in call options on oil with a strike price of
$25 , and a short position in call options on oil with a
strike price of $40.
B. B. Chakrabarti: bbc@iimcal.ac.in
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