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Options and Futures > Final > Flashcards

Final Flashcards

1
Q

What are the four ways to buy a share of stock?

A

Outright Purchases
Fully Leveraged Purchase
Prepaid Forward
Forward Contract

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2
Q

Describe an outright purchase

A

Pay at Time: 0
Receive Security at Time: 0
Payment: S0 at Time 0

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3
Q

Fully Leveraged Purchase

A

Pay at Time: T
Receive Security at Time: 0
Payment: S0 e^rt at Time T

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4
Q

Prepaid Forward

A

Pay at Time: 0
Receive Security at Time: T
Payment: ?

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5
Q

Forward Contract

A

Pay at Time: T
Receive Security at Time: T
Payment: ? e^ert

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6
Q

Prepaid Forward: Non-Dividend

A

F0,t = So

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7
Q

Prepaid Forward: Discreet Dividend

A

F0,t = So - PV(D1) - PV(D2)

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8
Q

Prepaid Forward: Continuously Compounded Dividend

A

F0,t = Soe^-deltat

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9
Q

Forward: Non-Dividend, Discreet Dividend, Continuously Compounded Dividend

A

Same as prepaid, but *e^rt

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10
Q

Assumptions for Continuously Compounded Dividend Yield

A

Bid + Ask Spread = 0
0 Brokerage Fees
Create an ideal world w/ no imperfections

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11
Q

Fair Value

A

The price the formula gives you, given you know the stock price and interest rate

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12
Q

Forward Premium

A

The ratio of the current forward price to the stock price

Infers the current stock price from forward price

=F0,t/So
sometimes expressed as annualized percent: ln(F0,t/So)/t

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13
Q

What are synthetics?

A

Give you a financial equivalent

Can offset risk of a forward by creating a synthetic forward to offset a position in the actual forward

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14
Q

How do you create a synthetic long forward?

A

Long Stock and Borrow

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15
Q

What transactions make up Cash + Carry Arbitrage? What does it tell you?

A

Long Stock
Borrow
Short Forward

The upper bound

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16
Q

What transactions make up Reverse Cash + Carry Arbitrage? What does it tell you?

A

Short Stock
Lend
Long Forward

The lower bound

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17
Q

What do synthetics do?

A

They create a link between markets

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18
Q

What is a synthetic forward’s equation?

A

Forward = stock - zero-coupon bond

(long stock, borrow)

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19
Q

What is a synthetic stock’s equation?

A

Stock = forward - zero-coupon bond

(long forward, lend)

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20
Q

What is a synthetic zero-coupon bond’s equation?

A

Zero-Coupon Bond = stock - forward

(long stock, short forward)

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21
Q

What is borrowing?

A

Shorting

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22
Q

What is lending?

A

Longing

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23
Q

Where does Cash and Carry get its name?

A

You carry the spot asset forward through time

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24
Q

What is your net cost of carry?

A

(r-delta)

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25
Q

What is the initial value of a forward contract?

A

0

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26
Q

What makes futures contracts different than forward contracts?

A

Futures are:
Exchange-traded
Standardized
Go through a clearinghouse
Settled daily
Low credit risk
Highly liquid

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27
Q

Forward:

A

Private contracts between two parties
Not standardized
One specific delivery date
Delivery or final cash settlement
Some credit risk

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28
Q

Futures:

A

Exchange Traded
Standardized
Range of Delivery Dates
Settles Daily
Contract closed prior to maturity
Virtually no credit risk

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29
Q

What requirements do futures have that forward contracts don’t?

A

Margin Requirements, marking to market and margin calls are required

30
Q

What is a maintenance margin?

A

Minimum amount of margin balance that you need to have in your account in order to keep your futures position valid

31
Q

Do most investors hold their futures contracts until maturity?

A

No, 95% are effectively cancelled

32
Q

When are forward and futures prices different?

A

A strong positive correlation between interest rates and the asset price implies the futures price is slightly higher

A negative correlation implies forward price is slightly higher

33
Q

What makes up the price of an option premium?

A

Intrinsic Value and Time Value

34
Q

What makes up intrinsic value?

A

stock price and strike price

35
Q

What makes up time value?

A

time to maturity
volatility
interest rates

36
Q

What synthetic securities can you create using parity?

A

Stock
T-Bill
Call
Put

37
Q

How do you create a synthetic stock?

A

long call, short put, lend pv

38
Q

How do you create a synthetic T-Bill?

A

long stock, short call, long put (conversion)

39
Q

How do you create a synthetic call?

A

long stock, long put, borrow PV of strike

40
Q

How do you create a synthetic put?

A

long stock, long call, lend PV of strike

41
Q

How do you figure out how to create synthetics?

A

Rearrange the PC Parity formula until so you have what you are looking for on one side.

42
Q

When are european options and american options equal?

A

american call = european call

43
Q

Call price cannot:

A

be negative
exceed stock price
be less than price implied by pc parity

44
Q

Put price cannot:

A

be negative
exceed stock price
be less than the price implied by pc parity

45
Q

When is a european stock option less valuable than otherwise identical options with less time to maturity?

A

on dividend paying stocks

46
Q

What is property 1 (calls) and what strategy do you use?

A

lower call premium means higher strike price
bull spread
Long call (lower k)
Short Call (higher k)
Above 0

47
Q

What is property 2 (calls) and what strategy do you use?

A

difference between call premium is less than the difference between the strike prices
bear spread
long call (higher k)
short call (lower k)
Above 0

48
Q

What is property 3 (calls) and what strategy do you use?

A

difference of call premiums divided by differences in strike prices
butterfly spread

49
Q

What is property 1 (puts) and what strategy do you use?

A

lower the strike price, lower the put premium
bear spread
long call (lower k)
short call (higher k)

50
Q

What is property 2 (puts) and what strategy do you use?

A

differences in put premiums is less than differences in strike prices
bull spread
long call (higher k)
short call (lower k)

51
Q

What is property 3 (puts) and what strategy do you use?

A

differences of put premiums divided by differences in strike prices
butterfly spread

52
Q

When is exercising early optimal?

A

when the underlying asset pays large dividend (call)
when an investor holds both the underly8ing asset and deep in the money puts

53
Q

What does each symbol represent in reference to the binomial model?

A

Delta = number of shares of the stock
B = $ investment in the risk-free asset
total equation = current value of portfolio

54
Q

What is p*?

A

Risk neutral probability

55
Q

What does delta and beta > 0 mean?

A

Long, lend

56
Q

What assumptions are made to use the black-scholes model?

A

continuously compounded returns is known and constant
future dividends are known

risk free rate is known and constant
no transaction costs
possible to short-sell costless
no arbitrage opportunity
possible to borrow/lend at the risk-free rate

57
Q

When does the BS model not work?

A

On American puts or calls with dividends

58
Q

What are the option Greeks?

A

Delta, Gamma, Theta, Vega, Rho

59
Q

What does Delta represent?

A

expected price change with a $1 change in stock price
also tells position in underlying asset

IV

60
Q

What does Gamma represent?

A

delta’s expected change with a $1 change in stock price

IV

61
Q

What does Theta represent?

A

decrease of an option’s extrinsic value with the passing of one day

TtM

62
Q

What does Vega represent?

A

expected price change when volatility increases 1%

Volatility

63
Q

What does Rho represent?

A

expected price change when interest rate increases by 1%

r

64
Q

What does a positive delta mean, negative?

A

long call
long put

65
Q

What must the deltas of call and put add up to?

A

1

66
Q

In the BS equation, what is delta?

A

N(d1)

67
Q

When is gamma most sensitive?

A

near ATM

put gamma = call gamma

68
Q

What type of theta do the different options have?

A

all options have negative theta

69
Q

When is theta larger?

A

at the money

70
Q

When will a theta be positive?

A

with a put deep in the money

71
Q

What type of Vega do the different options have?

A

positive

put vega = call vega

72
Q

What options have a positive rho?

A

long call and short put

negative is opposite

Options and Futures (2 decks)

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