Derivatives Flashcards
1
Q
State the factors that determine the price of an option (5)
A
- market value of the underlying asset
- strike price
- expiry date
- expected volatility
- type of option US/ European
2
Q
For someone about to sell house for €200k who is worried about rising sterling value, what type of option would they want and how would it achieve their objective (6)
A
- sterling call option
- allows them to BUY sterling
- at a fixed pre-determined price
- at a fixed date
- with no obligation
- the gain in option price would help offset potential currency loss on sale of house
3
Q
What is a long future and what is a short future?
A
Long = person committed to buying
Short = person committed to selling
If you are wanting to sell gold in the future then you want a SHORT contract
4
Q
State the type of futures contract you should enter into (if you own gold) to compensate for a drop in gold prices and explain how it achieves the objective. (7)
A
- SHORT futures contract
- involves obligation
- to sell
- at a specific price
- at a certain date
- if the gold price falls then can sell at higher price
- and buy back at a lower price
- covering any losses from the price drop
5
Q
Why may a futures contract not be best way to hedge against a price fall/rise (6)
A
- market may move the opposite way
- volatile asset
- needs constant monitoring
- usually limited to Proffessional investors
- complex investment
- potential unlimited loss
- underlying asset must be delivered / can’t cancel contract
6
Q
Give alternative derivatives to using futures (5)
A
- spread betting
- contracts for difference
- options
- covered warrants
- ETFs
7
Q
Options/ covered warrants
A
- right to buy or sell a pre determine amount of an asset
- at a pre determined price
- at a pre determined time/date
- pay a premium for that right
- if not used the contract expires
- people who buy call options are gambling on price rising (seller on price dropping)
- people who buy put options are gambling in prices falling (seller on price rising)
