45 & 46: Derivatives Flashcards
(37 cards)
Either the long or short in the forward contract will make a cash payment at contract expiration and the asset is not delivered
Cash settlement
Can be used for futures (exchanged traded forward contracts)
The standardized terms of a future (exchanged traded) give it far more flexibility to traders, giving rise to a strong secondary market and greater:
liquidity; uniformity of the contract terms broadens the market for the futures by appealing to a greater number of traders.
For a futures contract, once the account margin (based on the daily settlement price) falls below the maintenance margin level, it must be returned to the:
Initial margin level
To avoid closing out a futures position
when a combination of two securities will produce a certain payoff in the future that produces a return that is greater than the risk-free rate of interest
arbitrage opportunity
The reason there may be a difference in price between a forward contract and an identical futures contract is that a futures position has:
daily settlement;
makes or requires cash flows during its life
Price of derivatives is established at:
established at contract initiation, so that the price at initiation is 0
The value of futures and swaps, throughout the life of the contract:
may vary; due to daily cash settlement & floating rate changes
Changes during the life of the contract, with opposite gains & losses to the long & short
How do benefits & costs impact the no-arbitrage froward price at initiation?
- Benefits, decrease the price (F < Spot)
- Costs, increase the price (F > Spot)
used to hedge the interest rate exposure of a floating-rate loan
forward rate agreements
Differences may exist between forward and futures prices for otherwise identical contracts if futures prices are correlated with:
interest rates
When interest rates and futures prices are uncorrelated the prices of forward and futures on the same asset will be:.
equal
Short FRA position gains when:
Short (Seller) of FRA gains when floating rates decline
Obligation to make payment in the event that the reference interest rate increases above the contract prices
Used to lock in an interest rate for future borrowing or lending
FRA
Long position in FRA gains when:
Long (Buyer) position of FRA gains when interest rates increase
Buyer exchanges fixed rate agreement for floating rate agreement
The underlying instrument in a FRA:
interest rate
Financial instrument that transforms the underlying asset’s performance
Derivative
The price used to determine the daily gains and losses in the margin account:
Settlement Price
In using a one-period binomial model to value an option the expected payoff at the end of one period is discounted at the:
Risk-free rate
A bank borrows for 360 days and simultaneously lends the proceeds for 90 days. This transaction creates a synthetic forward rate agreement (FRA) closest to:
long position in a 90-day FRA on 270-day LIBOR.
A hedger could replicate a 90-day long FRA position on 120 day LIBOR by:
Lending at 90 day LIBOR & borrowing at 210 day LIBOR
(borrow for full time, lend for first portion)
Profit of a forward or futures contract at expiration=
Profit @ expiration= Value of option - Option premium
Expiration= Spot price- contract price
Intrinsic value (exercise value) =
The amount the option is in the money
Option Premium=
(price of the option)
Option premium = Intrinsic value + Time value
Intrinsic value/exercise value = amount in the money
If out of the money: option premium= time value
Time value > 0, before expiration
Greater volatility in the price of the underlying asset will have what effect on the value of a call option and the value of a put option?
Values of call and put options will both increase
An option’s value can fall no lower than zero (it will expire out of the money), volatility will increase an option’s upside potential
