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Flashcards in IFM All Chapters Deck (141)
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1

Haircut

Additional collateral set aside to compensate for risk which belongs to the short seller, held by the lender until position is closed

2

Short Rebate

Interest earned on the collateral in the stock market

3

Repo Rate

Interest earned on the collateral in the bond market

4

Short-sale

Believes that the price of the stock will decrease and profit can be made from this

5

Payoff

If one completely cashes out, does not consider cash flows on other dates

6

Profit

Considers cash flow on other dates with accumulated value at the given rate

7

Profit of Long Position

Payoff - AV(premium) at risk-free rate

8

Profit of Short Position

Payoff + AV(premium) at risk-free rate

9

Bull Spread

Long Call + Short Higher Strike Call

Long Put + Short Higher Strike Put

10

Bull Spread used when

belief price of asset will increase between two strike prices

11

Bear Spread

Short Call + Long Higher Strike Call

Short Put + Long Higher Strike Put

12

Bear Spread used when

price of asset decrease between two strike price

13

Box Spread

-Long Bull (call) + LongBear (put)

-Long Bull (put) + Long Bear (call)

14

Box Spread used when

lend or borrow money

15

Box Spread (lending money)

Long Bull (call) + Long Bear (put)

16

Box Spread (borrowing money)

Long Bull (put) + Long Bear (call)

17

Ratio Spread

Long M options (K1) + Short N options (K2)

Where K1 differs from K2 

18

Collar

Long Put (K1) + Short Call (K2); where K2 > K1

19

Collar used when

wishes to benefit from underlying asset price decreasing

20

Collared Stock

Combination of purchased collar + long stock

21

Straddle

Long Call (K1) + Long Put (K1)

22

Straddle used when

price of underlying asset will have large movements in either direction

23

Strangle

Long put (K1) + Long call (K2); where K2 > K1

24

Strangle used when

price of underlying asset will have large movements in either direction but with low initial cost (however lower payoff)

25

Butterfly Spread used when

Underlying asset will stay close to its current price but protect against large losses

26

Asymmetric Butterfly Spread

Strike Price Unequally Spaced

27

Symmetric Butterfly Spread

Strike Price Equally Spaced

28

Put-Call Parity Equation

C(S,K) - P(S,K) = FP(S) - Ke-rt

29

Law Of One Price

Two portfolios with exact same payoffs must have the same cost

30

Put-Call Parity Equation

C(S,K) - P(S,K) = FP(S) -  Ke-rt

31

Floor

Long Asset + Long Put

32

Floor useful for

guaranteeing a minimum price at which an asset can be sold with payoff of at least K

33

Caps

Short Asset + Long Call

34

Caps useful for

Insurance against short selling asset

Risk of price increasing

Buying asset for fixed price (k)

Capped the cost to close short position 

35

Write a Covered Call

Short Call + Long Asset

36

Write a Covered Put

Short Put + Short Asset

37

Payoff of Call as K increases

The payoff will decrease and the cost decreases

38

Payoff of Put as K increases

Payoff of put will increase and the cost will also increase

39

Maximum Loss on Long Put

AV(Put Premium) at risk-free rate

40

Maximum Loss on Short Put 

Limited to:

K - AV(Put Premium)

41

Assume you short-sell an asset and will have to buy the asset at a future date to close your short position. You wish to insure against an increase in the asset price.

Short Asset + Long Call = Cap

42

Assume you own an asset, and you wish to insure against a decrease in its price

Long Asset + Long Put = Floor

43

Identity: Floor 

Long Asset + Long Put = 

Long Call + Long risk free zero coupon Bond 

44

Identity: Cap

Short Asset + Long Call 

Long Put + Short risk-free rate zero coupon Bond

45

46

Long Put + Short risk-free rate zero coupon Bond

 

Identity for?

Identity: Cap

Short Asset + Long Call 

47

Long Asset + Long Put =

Floor

48

Short Asset + Long Call =

Caps

49

Short Call + Long Asset =

Write a Covered Call

50

Short Put + Short Asset =

Write a Covered Put

51

AV(Put Premium) at risk-free rate;

 

Max Loss for?

Maximum Loss on Long Put

52

K - AV(Put Premium)

Max Loss on?

Maximum Loss on Short Put 

53

Purpose of Covered Call?

Given Option Writer Shorts Call

Faces risk of asset price increases

Thus buys asset to offset

54

Long Call + Long risk free zero coupon Bond 

 

Identity for?

Identity: Floor 

Long Asset + Long Put = 

55

Additional collateral set aside to compensate for risk which belongs to the short seller, held by the lender until position is closed

Haircut

56

Interest earned on the collateral in the stock market

Short Rebate

57

Interest earned on the collateral in the bond market

Repo Rate

58

Believes that the price of the stock will decrease and profit can be made from this

Short-sale

59

Long Call + Short Higher Strike Call

Long Put + Short Higher Strike Put

Bull Spread

60

Short Call + Long Higher Strike Call

 Short Put + Long Higher Strike Put

Bear Spread

61

 belief price of asset will increase between two strike prices

                                             Bull Spread used when

62

price of asset decrease between two strike price

Bear Spread used when

63

Long Bull (call) + Long Bear (put)

Box Spread (lending money)

64

Long Bull (put) + Long Bear (call)

Box Spread (borrowing money)

65

Purpose of covered put?

Given Option Writer Shorts Puts

Faces risk of asset price decrease

Thus offsets with shorting the asset 

66

Maximum Loss of Long Call

Accumulated Value of Cash OutFlow from purchasing the Call

67

Maximum Gain of Long Call

Infinite 

68

Maximum Loss of Short Call

Infinite

69

Maximum Gain of Short Call

Accumulated Value of Cash InFlow from selling the Call

70

Maximum Loss of Long Put

Accumulated Value of Cash OutFlow from purchasing the Put

71

Maximum Gain of Long Put

Strike price to which you have the right to sell 

-

Accumulated Value of Cash OutFlow used to purchase the Put

72

Maximum Loss of Short Put

Strike price at which you need to buy the asset 

-

Accumulated Vaue of Cash InFlow from selling the Put

73

Maximum Gain from Short Put

Accumulated Value of Cash InFlow from selling the Put

74

How to hedge short position on underlying asset with Collar

Written Collared Stock 

Short Put Strike Price + Long Call Higher Strike Price

75

Risk Premium for Security (i)

E[Ri] - rf

76

Expected Market Risk Premium

E[market] - rf

77

Expected excess return of the Market

E[Rmarket] - rf

78

Expected excess return for Security (i)

E[Ri] - rf

79

CAPM Formula

E[Return on Investment]

= Risk-free rate + (Beta of investment security)*(Expected Market Risk Premium)

80

Enterprise Value

Which is the risk of the firm's underlying business operation that is seperate from its cash holdings.

81

Enterprise Value Formula:

 

Net Debt = Debt - Excess cash and short-term investments

82

rU=wE⋅rE+wD⋅rD

Unlevered Cost of Capital or Asset

83

If project is financed purely with equity, considered to be 

unlevered

84

Project finanaced with Debt and Equity considered to be 

levered

85

βU=wE⋅βE+wD⋅βD

Unlevered Beta or Asset

86

Benefits from Tax Deduction

 

 

Reduces Debt Cost of Capital -> more money to pay equity holders

87

Effective after-tax cost of debt

rD•(1−τC)

 τC = coporate tax rate

rD = Cost of Debt 

88

weighted-average cost of capital (WACC)

rWACC = wE⋅r+ wD⋅rD⋅(1−τC)

89

WACC vs Unlevered Cost Of Capital (is based off of?)

WACC = based on firm's after-tax cost of debt 

Unlevered Cost Of Capital = based on firm's pretax cost of debt 

90

Beta is calculated as

B=

( Cov[Ri,RMkt]

   /

   σ2Mkt )

 

91

equation for the CAPM is

r= E[Ri] = r+ βi(E[RMkt]−rf)

92

security market line (SML) represents

is a graphical representation of the CAPM

93

CML vs SML 

CML  vs  SML

Uses Total Risk vs Systematic Risk

Uses Efficient Portfolios Only vs Any security/combination of securities

 

 

 

94

The difference between a security's expected return and the required return

alpha

95

Alpha equation

α= E[Ri]−r= E[Ri]−[r+ βi(E[RMkt]−rf)]

96

ADDING A NEW INVESTMENT

rNew=rfNew,P⋅(E[RP]−rf)

97

market risk premium 

E[RMkt] − rf

98

Beta Formula in words

Change in an Asset's Return

/

Change in Market Return 

99

What does Beta Meaasure?

Systematic Risk of an asset by calculating the sensitivity of the Asset's return to the Market return 

100

Statisitical term of Beta defined as:

COV[Asseti, Market]

/

Variance of Market Return

101

Linear Regression estimate of Beta

Ri - rf = ai + B(Rmkt - rf) + ei

 

102
Chapter 5

Delta

Change in option cost per $1 of underlying asset movement

103

Gamma

Measures Delta's expected rate of change

 

104

If Delta is 0.40 and Gamma is .05 then first $1 dollar change is 0.40 of option's price, second $1 dollar change is 0.45

How Gamma works

105
Chapter 5

Vega

How much option cost may change with each 0.01 change in implied volatility

106

Option with Delta of .40 is also interpreted 

as 40% chance of expiring in the money 

107

IRR

Internal Rate of Return

108

What is IRR

Rate at which the Present Value of cash Inflow 

=

Present Value of cash Outflow

109

Geometric Series Finite

(First Term - First Omitted Term) 

/

(1 - Common Ratio)

110

Geometric Series Infinite

(First Term)

/

(1 - Common Ratio)

111

Present Value Annuity one period before the first payment date 

1 - vn

/

i

112

Present Value Annuity on the date of the first payment

1 - vn

/

d

113

Present Value Annuity with payments one period after the comparison date and continuing forever

1

/

i

114

Present Value Annuity with payments on the comparison date continuing forever

1

/

d

115

Sensitivity Analysis

changing the input variable one at a time to see how sensitive NPV is to each variable

116

Scenario Analysis

Changing several input variables at a time

117

Semi-Variance

= E [ min( 0, R - E[R] )]

118

Semi-Variance can be estimated by the sample semi - variance

What is the Formula?

(1/n) * Summationin (min ( 0, Ri - E[R] )2  

119

VaR (Value-at-Risk) of a Random Variable

Simply its Percentile

120

When risk-neutral probabilities are given, Calculate NPV with

risk-free rate

121

Black Schole Call Price Formula

C = Fp(S)•N(d1) - Fp(K)•N(d2​)

= (Prepaid Forward Price Stock)*N(d1) - (Prepaid Forward Price Strike)*N(d2)

122

What is a Forward Contract

Agreement between two parties, the buyer and seller, to exchange an asset on specified date AND specified price

123

Agreement between two parties, the buyer and seller, to exchange an asset on specified date AND specified price

Forward Contract

124

Long Forward makes investor

obligated to buy the underlying asset at the forward price

125

Payoff Long Forward 

Spot Price at Expiration - Forward Price

Also equals the Profit of Long Forward

126

Profit Long Forward

Payofflong forward

127

Forward Price should equal?

AV

of the Prepaid Forward Price 

at risk-free rate - compounded cont.

128

F0,T = (AV-prepaid forward price)

(FP)(ert)

 

r = risk free rate 

129

Pre-paid forward price = Stock's Price at 

Stock's Price at T=0

130

Notional Value means 

Size 

131

Liquidity 

How easy is it to buy and sell an asset

132

Black Scholes price for Put Option

P = Fp(K)•N(-d2) - Fp(S)•N(-d1)

133

Call Option Price Min Boundary

C(S,K,T) >= max [0, FP(S) - Ke-rt

134

Put Option Price Min Boundary

P(S,K,T) >= max [0, Ke-rT - FP(S) ]

135

Call Option Price Max Boundary

S >= C(S,K,T)

136

Put Option Price Max Boundary

K >= P(S,K,T)

137

Strike Price Proposition 1

C(K1) >= C(K2) >= C(K3

P(K1) <= P(K2) <= P(K3

138

Strike Price Proposition 2

C(K1) - C(K2) <= (K2 - K1)e-rT

P(K2) - P(K1) <= (K2 - K1)e-rT

139

d=

ln ( (FP(S) / FP(K) ) + (0.5)(σ2)(T)

/

σ • sqrt(T)

140

d2 = 

d1 - (σ • sqrt(T))

141