Forward: OTC place

ST – F0(T)

Future: standardized contract

Future exchange place

Clearing house is intermediary calculating daily loss/profit base on daily settlement price (an average
of final futures trades of the day)

Margin balance rule: mark to market

Initial margin: value must be deposited and to be refill after margin call

Maintainance margin: happen margin call

Price limit rule: 7% 100 => 93 107, no more higher or lower trade

+ circuit breaker: short break time for people to relax when the market fluctuate heavily

+ open interest: hợp đồng mở, khối lượng hợp đồng còn lại tại 1 thời điểm nhất định

+ Physical/Cash settlement

+ highly regulated

+ Hedging or Speculator

+ f0: Future price F0: forward price

Long: f1(T) – f0(T) …… f2(T) – f1(T) …….. fT(T) – f0(T) = ST – f0(T)

If fT(T) # ST => arbitrage

t=0 t=1 t=T

V0(T) = 0

V1(T) = +1 => mark to market => V1(T) = 0

SWAP: OTC place

Over the counter derivative contract

A series of forward or future

Exchange series of cash flow: 1 pay variable series

2 pay variable series or fixed asset

1 2 3 4 5

+ fixed + fixed + fixed + fixed + fixed

-floating -floating -floating -floating -floating

If fixed > floating => 2 pay for 1

If fixed < floating => 1 pay for 2

+ Default risk lower than loan because the total value is divided to small parts each period

OPTION: OTC or exchange traded place

+ exercised early: American option

+ exercised at mature day: European option

+ Long call: limited loss – unlimited gain / Long put: limited loss – limited gain

+ Short call: limited gain – unlimited loss / Short put: limited loss – limited gain

 Forward/Future : tuyến tính # Option : ko tuyến tính

+ Payoff # Profit: Payoff = Profit (+/-) P0/C0

Forward commitment: Must act

Contigent claim: Can act or not

III – Derivative benefit

1. Risk allocation, transfer and management

2. Information discovery
3. Operational advantages
4. Market efficiency

IV – Derivative risk

1. Greater potential for speculative use

2. Lack of transperency
3. Basis risk
4. Liquidity risk
5. Counterparty credi risk
6. Destabilization and systematic risk
PRICE VALUATION

Long FRA: - fixed + floating

Short FRA: + fixed - floating

 Lãi suất thay đổi 1bps, value thay đổi $50

+ r and future positive relation => prefer future than Forward
+ r and future negative relation => prefer Forward than future
+ r and future no relation => future equal Forward
PUT CALL PARITY
BINOMINAL MODEL

Short call => hedging: buy h*S0 > V0 = h*S0 – C0

If increase => V1 = h*S1+ - C1+

If decrease => V1 = h*S1- - C1-

Example:

T=0 : S0 = 50; u = 1.2; d = 0.8

=>. S1+ = 50* 1.25 = 62.5 => C1+ = Max(0;62.5-50) = 12.5

=>. S1- = 50* 0.8 = 40 => C1- = Max(0;40-50) = 0

=> h = (12.5)/(62.5 – 40) = 0.5555

C0 = hS0 + PV(-hS1- + c1-) = 0.5555* 50 + (-0.5555 * 40 + 0)/(1+0.07) = 7.009

Example:

T=0 : S0 = 50; u = 1.2; d = 0.8

=>. S1+ = 50* 1.25 = 62.5 => C1+ = Max(0;62.5-50) = 12.5

=>. S1- = 50* 0.8 = 40 => C1- = Max(0;40-50) = 0

=>. Pi = (1 + 0.07 – 0.8)/(1.25 – 0.8) = 0.6

=>. Expected value E(c1+) = pi * c1+ + (1-pi) * c1- =0.6*12.5 + (1-0.4)*0 = 7.5

=>. Present value C0 = E(c1+)/(1+r) = 7.5/1.07 = 7.009