Derivatives Flashcards
Derivative
financial product whose payoff depends on something else
what could that something else be?
commodities
equity
interest rates
credit
foreign exchange
exotic derivatives
weather
abstract
forward contract
derivative contract to buy/ sell at
- pre agreed quant (of underlying)
- on pre agreed date (delivery date)
-at pre agreed price( forward price)
forward price
pre agreed price to buy underlying at not price of forward
physically settles forward
if underlying asset is delivered/transferred in exchange for specific payment
actually get underlying @agreed price
cash settled forward
settled with cash instead of stock, bond, commodity
pay/get paid cash amount to payoff
actual physical delivery of underlying not required
payoff diagram
tells us how much financially we benefit from owning this derivative
can payoff be negative?
yes
x and y axis labels for payoff diagram
x- price of underlying on delivery/expiry date
y- payoff
payoff depends on
underlying
long forward means you are __
buying it
future contract
similar to forward but lose flexibility with
- underlying
- q
- delivery date
- future price (price @ which buying underlying)
- however, gives flexibility with respect to getting in and out of contract
European call option
derivative that gives the holder the option to
- buy underlying
- on a given date (exp date)
- at agreed price (strike price)
on a date vs upto a date
eu vs us
option to buy
call
option to sell
put
european vs american for timing/when can exercise
EU- can only be used at expiry
US- can exercise anytime
forward is like tied to___ and more __
tailor
customisable
future is like just __
buying at the shop, random shirt
call option
right to buy underlying at fixed price decided today for in the future
put option
right to sell underlying at fixed price decided today for in the future
in silicon valley what do they usually give instead of some salary?
euro call option as motivates workers to work hard and increase stock price as unlimited upside and keeps there there
pricing principal 0
for any derivative:
any value of underlying p on exp date
Payoff >= 0
some values of underlying
Payoff >0
Price derivative, call, put>0
profit vs payoff
not equal
payoff is what you would get if gifted for free and what you would make on expiry date
profit= payoff- price of deriv
when would you start actually making money
SP> (K + option price)
pricing principal I
2 derives with same underlying, same expiry
Payoff A>= Payoff B always
Payoff A> Payoff B sometimes
then
Price A> Price B
pricing principal II
if have derives ABC with same underlying, same expiry
if Payoff A= Payoff B+/-Payoff C
Price A= Price B+/- Price C
Put, call, forward on payoff diagram
put starts on y axis negative sloping
call starts on x axis positive sloping
forward usually goes under but would be same as call when price above>K
