Please follow the instructions carefully. No word count. Do the first two questions only. Deadline: 17 April, 2022 at 11:00PM KSA TimeFIN405-Assign
Please follow the instructions carefully.
No word count.
Do the first two questions only.
Deadline: 17 April, 2022 at 11:00PM KSA Time
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Kingdom of Saudi Arabia Ministry of Education Saudi Electronic University |
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المملكة العربية السعودية وزارة التعليم الجامعة السعودية الإلكترونية |
College of Administrative and Financial Sciences
Assignment-2
FIN-405-Financial Derivatives
Due Date: 17/4/[email protected] 23:59
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Course Name: Financial Derivatives |
Student’s Name: |
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Course Code: FIN-405 |
Student’s ID Number: |
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Semester: Second |
CRN: |
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Academic Year:2021-22-2nd |
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For Instructor’s Use only
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Instructor’s Name: |
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Students’ Grade: Marks Obtained/Out of 10 |
Level of Marks: High/Middle/Low |
General Instructions – PLEASE READ THEM CAREFULLY
· The Assignment must be submitted on Blackboard (WORD format only) via allocated folder.
· Assignments submitted through email will not be accepted.
· Students are advised to make their work clear and well presented, marks may be reduced for poor presentation. This includes filling your information on the cover page.
· Students must mention question number clearly in their answer.
· Late submission will NOT be accepted.
· Avoid plagiarism, the work should be in your own words, copying from students or other resources without proper referencing will result in ZERO marks. No exceptions.
· All answered must be typed using Times New Roman (size 12, double-spaced) font. No pictures containing text will be accepted and will be considered plagiarism).
· Submissions without this cover page will NOT be accepted.
Assignment 2
Submission Date by students: 17/04/2022-11:59 PM
Place of Submission: Students Grade Centre via blackboard.
Marks: 10 Marks
Assignment Purposes/Learning Outcomes:
CLO-2: Describe trading strategy which incorporates the use of call and put options
CLO-4. Calculate option maximum gain, maximum loss, and breakeven on various options positions
Assignment Question(s): (Marks 10)
Q1.Explain each of the following concepts as they relate to call options. (3 Marks)
a. Delta ( 1 Mark)
b. Gamma ( 1 Mark)
c. Rho ( 1 Mark)
Q2.What are the differences among scalpers, day traders, and position traders? (3 Marks)
Q3. Assume the possible stock prices of Hull Inc. are $150, $155, $160, $165, $170, $175, and $180. The price(premium) is $5 for October165 put option of Hull Inc.
Suppose you buy one October 165 put option contract(Np=100) of Hull Inc. and hold it until the options expire.
a) Determine the profit and loss at respective stock prices of Hull Inc. (2 Marks)
b) Determine the breakeven stock price at expiration. (1 Mark)
c) What are the maximum possible profit and loss on this transaction. (1 Mark)
,
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
Chapter 1: Introduction
Financial markets teach you humility. Two years ago, I made these related forecasts. First I forecast the euro would strengthen as European economic recovery picked up and the US economy slowed. Second, I forecast euro strength would be augmented over the next five years by a reduction of Europe's $100 billion to $150 billion of excess dollar reserves. Third, I forecast that the authorities would be less concerned over exchange rates, would only intervene after bigger exchange rate moves, and so exchange rate volatility would rise. Interestingly, people still ask for my opinion.
Avinash Persaud, Managing director, Global Markets Analysis, State Street Bank
Risk, October, 2000, p. 29
© 2010 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
Important Concepts in Chapter 1
n Different types of derivatives n Presuppositions for financial markets, risk preferences,
risk-return tradeoff, and market efficiency n Theoretical fair value n Arbitrage, storage, and delivery n The role of derivative markets n Criticisms of derivatives n Ethics
© 2010 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
n Business risk vs. financial risk n Derivatives u A derivative is a financial instrument whose return is derived from the
return on another instrument.
n Size of the OTC derivatives market at year-end 2010 u $601 trillion notional principal u GDP is only $15 trillion u See Figure 1.1 and Figure 1.2
n Real vs. financial assets
© 2010 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
Derivative Markets and Instruments
n Derivative Markets u Over-the-counter and exchange traded u Exchange traded derivatives volume in 2010 was over 22 billion contracts
on at least 78 derivatives exchanges, according to Futures Industry magazine (a leading source of derivatives industry information
u Derivatives trade all over the world u See Table 1.1 for the top ten derivatives exchanges
© 2010 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
Derivative Markets and Instruments
n Options u Definition: a contract between two parties that gives one party, the buyer,
the right to buy or sell something from or to the other party, the seller, at a later date at a price agreed upon today
u Option terminology F price/premium F call/put F exchange-listed vs. over-the-counter options
© 2010 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
n Forward Contracts u Definition: a contract between two parties for one party to buy something
from the other at a later date at a price agreed upon today u Exclusively over-the-counter
Derivative Markets and Instruments (continued)
© 2010 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
n Futures Contracts u Definition: a contract between two parties for one party to buy something
from the other at a later date at a price agreed upon today; subject to a daily settlement of gains and losses and guaranteed against the risk that either party might default
u Exclusively traded on a futures exchange
Derivative Markets and Instruments (continued)
© 2010 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
n Options on Futures (also known as commodity options or futures options)
u Definition: a contract between two parties giving one party the right to buy or sell a futures contract from the other at a later date at a price agreed upon today
u Exclusively traded on a futures exchange
Derivative Markets and Instruments (continued)
© 2010 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
n Swaps and Other Derivatives u Definition of a swap: a contract in which two parties agree to exchange a
series of cash flows u Exclusively over-the-counter u Other types of derivatives include swaptions and hybrids. Their creation
is a process called financial engineering. n The Underlying Asset u Called the underlying u A derivative derives its value from the underlying.
Derivative Markets and Instruments (continued)
© 2010 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
Some Important Concepts in Financial and Derivative Markets
n Presuppositions – rule of law, property rights, culture of trust
n Risk Preference u Risk aversion vs. risk neutrality u Risk premium
n Short Selling n Repurchase agreements (repos) n Return and Risk u Risk defined u The risk-return tradeoff (see Figure 1.3)
© 2010 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
n Market Efficiency and Theoretical Fair Value u Efficient market defined: A market in which the price of an asset equals its
true economic value. u An efficient market is a consequence of rational and knowledgeable
investor behavior u The concept of theoretical fair value F The true economic value
Some Important Concepts in Financial and Derivative Markets (continued)
© 2010 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
Fundamental Linkages Between Spot and Derivative Markets
n Arbitrage and the Law of One Price u Arbitrage defined: A type of profit-seeking transaction where the same
good trades at two prices. u Example: See Figure 1.4 F The concept of states of the world
u The Law of One Price
n The Storage Mechanism: Spreading Consumption across Time
n Delivery and Settlement
© 2010 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
The Role of Derivative Markets n Risk Management u Hedging vs. speculation u Setting risk to an acceptable level u Example: Southwest Airlines
n Price Discovery n Operational Advantages u Transaction costs u Liquidity u Ease of short selling
n Market Efficiency
© 2010 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
Criticisms of Derivative Markets
n Speculation n Comparison to gambling
© 2010 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
Misuses of Derivatives
n High leverage n Inappropriate use
© 2010 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Derivatives and Ethics
n Codes of ethics and standards of professional conduct are vital components of the derivatives profession
n Examples u CFA Institute u Professional Risk Managers International Association u Global Association of Risk Professionals
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
Derivatives and Your Career n Financial management in a business n Small businesses ownership n Investment management n Public service
Summary
Source of Information on Derivatives http://www.cengage.com/finance/chance
© 2010 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
Chapter 1: Introduction
Financial markets teach you humility. Two years ago, I made these related forecasts. First I forecast the euro would strengthen as European economic recovery picked up and the US economy slowed. Second, I forecast euro strength would be augmented over the next five years by a reduction of Europe's $100 billion to $150 billion of excess dollar reserves. Third, I forecast that the authorities would be less concerned over exchange rates, would only intervene after bigger exchange rate moves, and so exchange rate volatility would rise. Interestingly, people still ask for my opinion.
Avinash Persaud, Managing director, Global Markets Analysis, State Street Bank
Risk, October, 2000, p. 29
© 2010 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
Important Concepts in Chapter 1
n Different types of derivatives n Presuppositions for financial markets, risk preferences,
risk-return tradeoff, and market efficiency n Theoretical fair value n Arbitrage, storage, and delivery n The role of derivative markets n Criticisms of derivatives n Ethics
© 2010 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
n Business risk vs. financial risk n Derivatives u A derivative is a financial instrument whose return is derived from the
return on another instrument.
n Size of the OTC derivatives market at year-end 2010 u $601 trillion notional principal u GDP is only $15 trillion u See Figure 1.1 and Figure 1.2
n Real vs. financial assets
© 2010 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
Derivative Markets and Instruments
n Derivative Markets u Over-the-counter and exchange traded u Exchange traded derivatives volume in 2010 was over 22 billion contracts
on at least 78 derivatives exchanges, according to Futures Industry magazine (a leading source of derivatives industry information
u Derivatives trade all over the world u See Table 1.1 for the top ten derivatives exchanges
© 2010 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
Derivative Markets and Instruments
n Options u Definition: a contract between two parties that gives one party, the buyer,
the right to buy or sell something from or to the other party, the seller, at a later date at a price agreed upon today
u Option terminology F price/premium F call/put F exchange-listed vs. over-the-counter options
© 2010 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
n Forward Contracts u Definition: a contract between two parties for one party to buy something
from the other at a later date at a price agreed upon today u Exclusively over-the-counter
Derivative Markets and Instruments (continued)
© 2010 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
n Futures Contracts u Definition: a contract between two parties for one party to buy something
from the other at a later date at a price agreed upon today; subject to a daily settlement of gains and losses and guaranteed against the risk that either party might default
u Exclusively traded on a futures exchange
Derivative Markets and Instruments (continued)
© 2010 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
n Options on Futures (also known as commodity options or futures options)
u Definition: a contract between two parties giving one party the right to buy or sell a futures contract from the other at a later date at a price agreed upon today
u Exclusively traded on a futures exchange
Derivative Markets and Instruments (continued)
© 2010 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
n Swaps and Other Derivatives u Definition of a swap: a contract in which two parties agree to exchange a
series of cash flows u Exclusively over-the-counter u Other types of derivatives include swaptions and hybrids. Their creation
is a process called financial engineering. n The Underlying Asset u Called the underlying u A derivative derives its value from the underlying.
Derivative Markets and Instruments (continued)
© 2010 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
Some Important Concepts in Financial and Derivative Markets
n Presuppositions – rule of law, property rights, culture of trust
n Risk Preference u Risk aversion vs. risk neutrality u Risk premium
n Short Selling n Repurchase agreements (repos) n Return and Risk u Risk defined u The risk-return tradeoff (see Figure 1.3)
© 2010 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
n Market Efficiency and Theoretical Fair Value u Efficient market defined: A market in which the price of an asset equals its
true economic value. u An efficient market is a consequence of rational and knowledgeable
investor behavior u The concept of theoretical fair value F The true economic value
Some Important Concepts in Financial and Derivative Markets (continued)
© 2010 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
Fundamental Linkages Between Spot and Derivative Markets
n Arbitrage and the Law of One Price u Arbitrage defined: A type of profit-seeking transaction where the same
good trades at two prices. u Example: See Figure 1.4 F The concept of states of the world
u The Law of One Price
n The Storage Mechanism: Spreading Consumption across Time
n Delivery and Settlement
© 2010 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
The Role of Derivative Markets n Risk Management u Hedging vs. speculation u Setting risk to an acceptable level u Example: Southwest Airlines
n Price Discovery n Operational Advantages u Transaction costs u Liquidity u Ease of short selling
n Market Efficiency
© 2010 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
Criticisms of Derivative Markets
n Speculation n Comparison to gambling
© 2010 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
Misuses of Derivatives
n High leverage n Inappropriate use
© 2010 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Derivatives and Ethics
n Codes of ethics and standards of professional conduct are vital components of the derivatives profession
n Examples u CFA Institute u Professional Risk Managers International Association u Global Association of Risk Professionals
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
Derivatives and Your Career n Financial management in a business n Small businesses ownership n Investment management n Public service
Summary
Source of Information on Derivatives http://www.cengage.com/finance/chance
© 2010 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
Chapter 1: Introduction
Financial markets teach you humility. Two years ago, I made these related forecasts. First I forecast the euro would strengthen as European economic recovery picked up and the US economy slowed. Second, I forecast euro strength would be augmented over the next five years by a reduction of Europe's $100 billion to $150 billion of excess dollar reserves. Third, I forecast that the authorities would be less concerned over exchange rates, would only intervene after bigger exchange rate moves, and so exchange rate volatility would rise. Interestingly, people still ask for my opinion.
Avinash Persaud, Managing director, Global Markets Analysis, State Street Bank
Risk, October, 2000, p. 29
© 2010 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
Important Concepts in Chapter 1
n Different types of derivatives n Presuppositions for financial markets, risk preferences,
risk-return tradeoff, and market efficiency n Theoretical fair value n Arbitrage, storage, and delivery n The role of derivative markets n Criticisms of derivatives n Ethics
© 2010 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
n Business risk vs. financial risk n Derivatives u A derivative is a financial instrument whose return is derived from the
return on another instrument.
n Size of the OTC derivatives market at year-end 2010 u $601 trillion notional principal u GDP is only $15 trillion u See Figure 1.1 and Figure 1.2
n Real vs. financial assets
© 2010 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
Derivative Markets and Instruments
n Derivative Markets u Over-the-counter and exchange traded u Exchange traded derivatives volume in 2010 was over 22 billion contracts
on at least 78 derivatives exchanges, according to Futures Industry magazine (a leading source of derivatives industry information
u Derivatives trade all over the world u See Table 1.1 for the top ten derivatives exchanges
© 2010 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
Derivative Markets and Instruments
n Options u Definition: a contract between two parties that gives one party, the buyer,
the right to buy or sell something from or to the other party, the seller, at a later date at a price agreed upon today
u Option terminology F price/premium F call/put F exchange-listed vs. over-the-counter options
© 2010 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
n Forward Contracts u Definition: a contract between two parties for one party to buy something
from the other at a later date at a price agreed upon today u Exclusively over-the-counter
Derivative Markets and Instruments (continued)
© 2010 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
n Futures Contracts u Definition: a contract between two parties for one party to buy something
from the other at a later date at a price agreed upon today; subject to a daily settlement of gains and losses and guaranteed against the risk that either party might default
u Exclusively traded on a futures exchange
Derivative Markets and Instruments (continued)
© 2010 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
n Options on Futures (also known as commodity options or futures options)
u Definition: a contract between two parties giving one party the right to buy or sell a futures contract from the other at a later date at a price agreed upon today
u Exclusively traded on a futures exchange
Derivative Markets and Instruments (continued)
© 2010 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
n Swaps and Other Derivatives u Definition of a swap: a contract in which two parties agree to exchange a
series of cash flows u Exclusively over-the-counter u Other types of derivatives include swaptions and hybrids. Their creation
is a process called financial engineering. n The Underlying Asset u Called the underlying u A derivative derives its value from the underlying.
Derivative Markets and Instruments (continued)
© 2010 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
Some Important Concepts in Financial and Derivative Markets
n Presuppositions – rule of law, property rights, culture of trust
n Risk Preference u Risk aversion vs. risk neutrality u Risk premium
n Short Selling n Repurchase agreements (repos) n Return and Risk u Risk defined u The risk-return tradeoff (see Figure 1.3)
© 2010 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
n Market Efficiency and Theoretical Fair Value u Efficient market defined: A market in which the price of an asset equals its
true economic value. u An efficient market is a consequence of rational and knowledgeable
investor behavior u The concept of theoretical fair value F The true economic value
Some Important Concepts in Financial and Derivative Markets (continued)
© 2010 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.
Chance/Brooks An Introduction to Derivatives and Risk
Management, 9th ed. Ch. 1: 0
Fundamental Linkages Between Spot and Derivative Markets
n Arbitrage and the Law of One Price u Arbitrage defined: A type of profit-seeking transaction where the same
good trades at two prices. u Example: See Figure 1.4 F The concept of states of the world
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