Derivatives Flashcards
What is a energy derivative
contract derived from an underlying energy related commodity.
> It could be physical: an agreement to trade a commodity
at some future date
>Or financial: an exchange of cash flows based on energy prices at future dates
How can derivatives be splitter?
without optionality: forward, futures & swaps
with different sorts of optionality: options on standard forward/futures or on non-standards (e.g., hourly options, swings, power plant)
What is the keys interest here?
to find the fair value of a derivative (i.e., the price a neutral market participant would be willing to pay
Marked-to-market valuation
daily assessment of the market prices prices of a derivative, when the derivative liquid.
Describe Forward contracts
- > Bilateral agreement to sell/buy a certain amount of a commodity on a fixed delivery date. Both a parties are obliged to deliver & pay.
- > Products: standards and non standards
- > Payment: occurs at a date close after delivery. (no cf until delivery)
- > Deal closure: broker or electronic platform
- > Challenge: credit risk ( one party does not full his obligation to deliver or pay
->Standards of the contracts: EFET-
invoicing: no later than the 10th day of the month following delivery
payment: no later than the 20th day of the month following delivery
- Formula
Today’s forward value = (current market price of a forward at time t for a given delivery T - price at which the contract was concluded) * e ^ -interest rate* (T-t)
-> Sentivity to changes in the underlying’s value: AV= AF*e^-r(T-t)
Describe Futures contracts
- > often settled only financially. sometimes they allow to choose btw physical or financial settlement (before maturity)
- > Deal Closure: commodity exchange trading system, there is also a clearing house that eliminates the credit risk included in OTC contracts
- > Products: standards
->Challenges: Clearing houses demand payment of margins( initial and variation)
>initial-entry ticket;
>daily - day by day marking to market, reduces or increases the balance of margin account subject to delay fluctuation on price;
>maintenance - min. level of balance of margin account must fall below maintenance margin level
->Daily realisation of profits and loses leads to particular cash liquidity requirements compared to forward contracts.
-> Sentivity to changes in the underlying’s value AF:
AV= AF
Describe how the margin account in the future contract work?
Maint and initial margins are given
- Se empieza con un margin inicial de x en t=0
- Se suma o resta el delta P&L de del t=1 al initial margin
- Repetir suma o resta. En caso de que el margin account tenga un valor menor al del maint. margin, se anade el inicial margin nuevamente.Si la cantidad es menor a 0 (e.g. - 62.80. se anade esa cantidad mas el intial margin (i.e., 262.80)
Describe Swap Contracts
- > One couterpart (customer) pays the other counterpart (trader) a fixed payment at a pre-determined date, whereas the other counterpart (trader) pays at the same day varible payments. IOW: at settlement both parties exchange the difference between fixed and floating price. On the other hand, customer needs to buy power form the market, thus gets electricity from the market at a spot price.
- > Settled only financial
Describe the Future and Forward Option contract
->Both have the obligation to buy or sell a defined amount of energy within a defined time period in the future at an agreed price. Both, buyer and seller are securing prices for future energy delivery.
- > buyer will profit form rising energy prices and the seller the other way around.
- > product with a fixed price and symmetric risk profile (what one side gains the other side loses)
Describe the call option
Rights and Obligations:
- buyer of a call has the right but not the obligation to buy a a def. quantity at a agreed price by paying an option premium. (Piensa que precios pueden subir)
- seller must sell in case buyer want to excecute the option
Profits and risks:
- buyer is protected against higher energy prices, but may still profit from lower energy prices.
- seller receives an option premium but may face infinite losses.
Describe a put option
gives the holder of the the option to sell a defined quantity of a commodity to the option seller.
What are the key option parameters
time to maturity (time gap) strike price ( can be ITM, ATM, OTM)
Mention and explain two hedging strategies
- Covered call (short call and forward) - expect prices to increase a bit
- Protective put (forward and long put)
importan consequence of a put-call parity
the value of a call option can be calculated by the corresponding put option and the corresponding forward and vice versa.
what are the relevant elements considering for valuing an option
Time value: time gap between today and the time to maturity (long or short?) (also value coming from the future price developments of the underlying. => function of time to maturity and volatility of the underlying
Intrinsic or inner value: value if the option is to be exercised now => function of the strike price and current market price of the corresponding underlying. (assessment of the option to the current prices=
why is it effective to analyse the entire portfolio rather than just individual contracts
for an effective risk and portfolio management.
>The greeks:
Sensitivity of the portfolio in relation to important market parameters.
what does the delta represent=?
how much the does portfolio value V change in case of changes in market price?
what does gamma represent?
how much the the portfolio’s delta change in case of changes in the market price
what does theta and Vega represent?
Theta = how much does the portfolio’s value change with respect to time to maturity t?
Vega= how much does the portfolio’s value change with respect to volatility?
formula for the spread ( price differences btw things) positive we make money; negative we loos
S = Power price - ((Fuel price + emission factor * EUA price)/plant efficiency)
what is the power plant’s gross margin
margin = max (0; spread) -»> at 0 starts to generate
