2. Introduction
Derivatives Market is bigger than stock Market.
It comes from Securitization.
It shifts Risk within participants.
It is too risky and high leveraged .
It Reduces transaction cost. It provides
price information.
Great deal of liquidity
Attract different types of dealers
3. Exchange trade and OTC
Option and Future Contracts @Standardized
exchange trade backed by clearinghouse. (CME
,CBOE )
Forward, Swaps and Bond Option @ Unregulated
OTC / Dealer Market has no central location with
high credit risk. Bigger than Exchange-trade with
easier term of contract and free negotiation.
Electronic trading, Robo, Black box,
automated, high frequency
4. Contract Commitment Vs. Contingent Claim
Forward Contract: Spot Contract is a
legally promise to perform an action in
future. Same as Forward, future, swap,
Contingent Claim for broken certain
threshold. Same as Option
Two options replicate a forward or future
contract.
Long position payoff: ST-K
Short position payoff: K-ST
5. Types of Participant and
trader
Participants:
1. Buyer of call
2. Seller of call
3. Buyer of put
4. Seller of put
Trader:
1. Hedger
2. Speculator
3. Arbitrageur
6. Arbitrage
Two identical payoff have the same price.
Certain pay off of a portfolio is more than risk
free rate.
Market Efficiency.
Mispricing asset bring up arbitrage opportunity.
Combining uncertain returns in portfolio to result
certain return.
7. Hedger
Reducing Risk with no guarantee of better off.
Always avoid of exposure to risk.
Using Forward Contract
Locking the exchange rate in forward contract. It
Neutralizes by Fixing the price.
Using Option
Stock option is used to protect losing on stock price
and provide insurance.
Upfront fees is needed
8. Speculator
Looking for a position of exposure.
Using Future
In hope of strength of currency:
1. Purchase currency in spot market.(need high
investment)
2. take long position in future contract on currency.
Using option
In hope of stock price growth:
1.Purchse stock
2.Long position in call option (more profitable)
9. Arbitrageur
Locking in riskless profit in two or more Market
Caused by discrepancy of price in two markets
Last very short as Market get balance by demand
and supply and transaction costs.