ESP 2- KEY

Unit 6: Futures & Derivatives

1 a. Match up the following words and definitions

1-B

2-A

3-F

4-C

5-E

6-D.

1b. Reading
Select ten or eleven of the following words that you would expect to find in an
introductory text about futures and options
assets beer bush call commodities contracts
copper currencies discount discount store foodstuffs
hedge liabilities plastic phone raw materials
shout spot market tea supermarket

Based on students’ knowledge

1c Summarizing
Complete the following sentences.
1 The difference between futures and forward contracts is …
Futures: Standardized deals
Forward contracts: individual, non-standard, ‘over-the-counter’ deals
2 Producers and buyers often choose to hedge because …
This allows them to guarantee prices for several months
3 Speculators can make money on currency futures if …
If they correctly anticipate exchange rate appreciations, depreciations or interest
rate changes.
 4 If you believe that a share price will rise, possible option strategies include…
Possible option strategies include buying a call, which you will be able to sell at a
profit, and writing a put, which will never be exercised, so you can earn premium.
5 On the contrary, if you think a share price will fall, possible option strategies
include…
Buying a put, so you will be able to sell your shares at above the market price,
and writing a call, which will never be exercised, so you earn the premium
6 The risk with currency and interest rate swaps is that …
The exchange and the interest rate may change un favorably
1d Vocabulary
Find words in the text that are in an obvious sense the opposite of the terms below.
appreciate – depreciate
call - put
discount - premium
drought- flood
floating - fixed
hedging - speculation
spot market – futures market
strike price – market price
EX 1:

A. Decide whether the following statements are True or False

1. T - The price of a futures contract is determined at the moment the contract is made.
2. F- Hedging is another name for speculating.
3. F- Futures prices are always higher than spot prices, because they contain interest
charges.
4. T- In options, “call” means “buy” and “put” means “sell”.
5. F- The amount of money one can make or lose on an options contract is determined at
the moment the contract is made.
6. T- You can sell an option to sell an asset you do not actually possess.
7. T- If you think a share will rise, you can profit by buying a call option or writing a put
option giving someone else the right to sell the shares at the current price.
8. F- It you think the value of a share you own will fall below its current price, you can
profitably buy a call option at this price (or higher) or write a put option.
9. T- A put option has intrinsic value if its exercise price is above the current market price
of the underlying share.
10. F- A call option with an exercise price below the underlying share’s current, market
price is “out-of-money”.

B. Match up the following words (using them more than once if necessary) to make
up at least ten two-word nouns:
call option
forward contract
financial market
futures market
financial instrument
raw materials
strike price
primary market
spot market

C. Match up the following words or expressions to make eight pairs of opposites:

call option - put option
discount - premium
drought - flood
exercise price- market price
futures market - spot market
hedging - speculation
in-the-money - out-of-the-money
obligation - right

1. Find words and phrases in the text to complete the sentences.

1. A ______put option ____ ___________ is contract giving the possibility to sell
a specified quantity of securities, foreign exchange or commodities in the future,
if it is advantageous to do so.
 2. ___commodities___________ are raw materials such as agricultural products
and metals that are traded on special exchanges.
3. __futures____________ are forward contracts for the purchase and sale of
securities, precious metals, etc…,at a fix price.
4. A______call option_____ ___________ is a contract giving the buyer the right,
but not the obligation, to buy an asset in the future.
5. If you_____hedge________ you make transactions that are designed to reduce
risk regarding a particular price, interest rate or exchange rate.
6. An ________interest rate swap ____ _____________ ____________ is an
exchange of future payments on borrowed money according to specified terms.
7. If you ______excercise___________ an option you use or implement the option,
taking up the possibility to buy or sell something.
8. A _____speculator___________ anticipates future changes in a market and
makes risky transactions, hoping to make a gain.
9. A _____premium___________ is the money the writer of an option receives

2. Use a word or phrase from each box to make word combinations from the
text. You can use some words more than once. Then use some of the word
combinations the complete the sentences below.
determine interest payments
eliminate options
exercise prices
guarantee risks
reduce uncertainty
swap
1. Companies with fixed and floating loans can choose to _swap interest
payments_ ____
2 Futures contracts allow you to ___ eliminate ________ short-term____ risks
3. Hedging is the attempt to reduce risks / uncertainty __________ ; speculating
is the opposite.
4. If prices move the wrong way, the buyer of ___options______do
not____excercise_____them.
5 With futures, you can _determine prices/ guarantee prices_____ several
months in advance.

A. Match the two parts of the sentences. Look at A opposite to help you.
 1. C-- The price of a derivate always depends on
2. A--Options can be used to hedge against
3. B--A call option gives its owner
product.
4. D--A put option gives its owner
a. future price changes.
b. the right to buy something.
c. the price of another financial
d. the right to sell something.

B. Choose the correct ending for the sentences. Some sentences have more than one
possible ending. Look at A and B opposite to help you.
1.A,D--- If you expect the price of a stock to rise, you can a. buy a call option.
b sell a call option.
c. buy a put option.
d. sell a put option.
2. B,C---If you expect the price of a stock to fall, you can a. buy a call option
b. sell a call option.
c. buy a put option.
d. sell a put option.
3. B---If an option is out- of- the- money it will a. be exercised.
b. not be exercised.
4. A---If an option is in-the-money the seller will a. lose money
b. gain money.
5. A---The bigger risk is taken by a. writers of options.
b. buyers of options.
C. Complete the definitions. Look at A, B and C opposite to help you.

…WARRANTS………… are like call options, but with much longer time spans.

……SWAPS … ………… give the right to sell securities at a fixed price within

a specified
…PUT OPTIONS period.
……. can be used to speculate on interest rate movements.

D. Complete these sentences using words from A, B and C opposite.

1. If your put option is out-of-the-money, the seller will gain the ……PREMIUM…….
2. You only exercise a call option if the market price is higher than the …STRIKE/
EXERCISE PRICE……
 3. If I expect a stock price to go up in the short term, I buy …CALL OPTIONS……. ……..
instead of the stock.
4. If I expect a big company’s stock price to go up in the long term. I sometimes buy their …
WARRANTS……
5. We needed euros and had a lot of dollars in the bank, so we did a …SWAP…. with a
German company which needed dollars.

A. Match the word in the box with the definitions below. Look at A opposite to help
you.

Backwardation Commodities Forwards Futures

To hedge Over-the-counter Spot price

1. Spot price : the price for the immediate purchase and delivery of a commodity
2. Backwardation : the situation when the current price is higher than the future
price
3. Over-the-counter: adjective describing a contract made between two businesses,
not using an exchange
4. Forwards: contracts for non- standardized quantities or time periods
5. Commodities : physical substance, such as food, fuel and metals, that can be
bought or sold with futures contracts
6. To hedge: to protect yourself against loss
7. Futures contracts to buy or sell standardized quantities

B. Complete the sentences using a word or phrase from each box. Look at A and B
opposite to help you.
A commodity futures allow
B interest rate futures allow
C currency futures allow
U banks X food manufactures
V companies Y importers
W farmers Z investors

1…A,X………………….. to charge a consistent price for their products

2……B,Z……………….. to be sure of the rate they will get on bonds which could be
issued at a different rate in the future
3……B,V……………….. to know at what price they can borrow money to finance new
projects
4……A,W……………….. to make plans knowing what price they will get for their
crops
5…B,U………………….. to offer fixed lending rates
6………C,Y…………….. to remove exchange rate risks from future international
purchases

A. Are the following statements true or false? Find reasons for your answer in B
opposite.
1. T --- Financial futures were created because exchange rates, interest rates and stock
prices all regularly change.
2. F----Interest rate futures are related to stocks and shares.
3. T---Financial futures contracts allow companies to protect themselves against short-
term changes in exchange rates.
4. T----You can only hedge if someone who expects a price to move in the opposite
direction is willing to buy or sell a contract.
5. F----Both parties can make money out of the same futures contract.