Chapter 1 - Derivatives (1) Flashcards

1
Q

Derivative definition

A

A financial instrument whose value is dependant on (or derived from) the value of another, underlying asset.

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
2
Q

Two (2) distinct marketplaces for derivatives

A
  • Exchanges

- Over-the-counter (OTC)

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
3
Q

Futures contract definition

A

A standardized, exchange-tradable contract between two parties to trade a specified asset on a set date in the future at a specified price

Cash market or Spot market is often used to refer to the market for the underlying

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
4
Q

Tick size

A

Minimum price movement for a contract on an exchange

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
5
Q

Clearing house

A
  • Checks that the buy and sell orders match each other

- Acts as “a party to every trade”

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
6
Q

Advantages of a clearing house

A
  • Removes counterparty credit risk

- Since contracts are standardised, participants can ‘clear out’ position without finding original partner.

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
7
Q

Margin

A

Collateral each party must deposit with the clearing house.

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
8
Q

Initial margin

A

Amount deposited when transaction is first struck

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
9
Q

Variation margin

A

Additional payments made on a daily basis to adjust margin based on price movements to control counterparty risk

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
10
Q

Maintenance margin

A

Level of margin account below which a a variation margin must be desposited

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
11
Q

Delivery (in futures market)

A

Refers to the settlement process

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
12
Q

Open interest

A

Number of contracts outstanding at any one time

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
13
Q

Option definition

A

A contract between two parties to trade a specified asset on a set date in the future at a specified price

The holder of an option is not obliged to trade (hence the name option)

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
14
Q

Call option

A

Gives the holder the right, but not obligation, to buy a specified asset on a set date in the future at a specified price

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
15
Q

Put option

A

Gives the holder the right, but not obligation, to sell a specified asset on a set date in the future at a specified price

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
16
Q

Exercise price / Strike price

A

The price at which an underlying security can be sold to or purchased from the writer of an option

17
Q

Margins (with regards to options)

A

Only payed by the writer of the option as the buyer has no obligation to exercise the option and therefore poses no counterparty risk

18
Q

Main advantage of the OTC market

A

Ability to tailor contracts to the buyers precise requirements

19
Q

Main disadvantages of OTC market

A
  • Non-standard contracts reduce/eliminate marketability
  • High dealing costs
  • No quoted market values
  • Greater credit risk
20
Q

Forward definition

A

A non-standardized, privately negotiated contract between two parties to trade a specified asset on a set date in the future at a specified price

21
Q

Swap definition

A

A contract between two parties under which they agree to exchange a series of payments according to a prearranged formula. Generally sold in the OTC market