Options, Futures, and Other Derivatives with Derivagem,9780130090560

Options, Futures, and Other Derivatives with Derivagem

by
Edition: 5th
ISBN13: 9780130090560
ISBN10: 0130090565
Format: Hardcover
Pub. Date: 2003-01-01
Publisher(s): Pearson College Div
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List Price: $168.55

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Summary

This fifth edition book bridges the gap between the theory and practice of derivatives. It provides a unifying approach to the valuation of all derivatives--not just futures and options. It assumes that the reader has some knowledge of finance and probability and statistics. Topics covered include Determination of Forward and Futures Prices, Interest Rate Markets, Mechanics of Options Markets, and Properties of Stock Options. For individuals who work for banks and other financial institutions, as well as options traders, options analysts, risk managers, swaps traders, financial engineers, and corporate treasurers.

Table of Contents

Preface xix
Introduction
1(18)
Exchange-traded markets
1(1)
Over-the-counter markets
2(1)
Forward contracts
2(3)
Futures contracts
5(1)
Options
6(4)
Types of traders
10(4)
Other derivatives
14(5)
Summary
15(1)
Questions and problems
16(1)
Assignment questions
17(2)
Mechanics of futures markets
19(22)
Trading futures contracts
19(1)
Specification of the futures contract
20(3)
Convergence of futures price to spot price
23(1)
Operation of margins
24(3)
Newspaper quotes
27(4)
Keynes and Hicks
31(1)
Delivery
31(1)
Types of traders
32(1)
Regulation
33(2)
Accounting and tax
35(1)
Forward contracts vs. futures contracts
36(5)
Summary
37(1)
Suggestions for further reading
38(1)
Questions and problems
38(2)
Assignment questions
40(1)
Determination of forward and futures prices
41(29)
Investment assets vs. consumption assets
41(1)
Short selling
41(1)
Measuring interest rates
42(2)
Assumptions and notation
44(1)
Forward price for an investment asset
45(2)
Known income
47(2)
Known yield
49(1)
Valuing forward contracts
49(2)
Are forward prices and futures prices equal?
51(1)
Stock index futures
52(3)
Forward and futures contracts on currencies
55(3)
Futures on commodities
58(2)
Cost of carry
60(1)
Delivery options
60(1)
Futures prices and the expected future spot price
61(9)
Summary
63(1)
Suggestions for further reading
64(1)
Questions and problems
65(2)
Assignment questions
67(1)
Appendix 3A: Proof that forward and futures prices are equal when interest rates are constant
68(2)
Hedging strategies using futures
70(23)
Basic principles
70(2)
Arguments for and against hedging
72(3)
Basis risk
75(3)
Minimum variance hedge ratio
78(4)
Stock index futures
82(4)
Rolling the hedge forward
86(7)
Summary
87(1)
Suggestions for further reading
88(1)
Questions and problems
88(2)
Assignment questions
90(2)
Appendix 4A: Proof of the minimum variance hedge ratio formula
92(1)
Interest rate markets
93(32)
Types of rates
93(1)
Zero rates
94(1)
Bond pricing
94(2)
Determining zero rates
96(2)
Forward rates
98(2)
Forward rate agreements
100(2)
Theories of the term structure
102(1)
Day count conventions
102(1)
Quotations
103(1)
Treasury bond futures
104(6)
Eurodollar futures
110(1)
The LIBOR zero curve
111(1)
Duration
112(4)
Duration-based hedging strategies
116(9)
Summary
118(1)
Suggestions for further reading
119(1)
Questions and problems
120(3)
Assignment questions
123(2)
Swaps
125(26)
Mechanics of interest rate swaps
125(6)
The comparative-advantage argument
131(3)
Swap quotes and LIBOR zero rates
134(2)
Valuation of interest rate swaps
136(4)
Currency swaps
140(3)
Valuation of currency swaps
143(2)
Credit risk
145(6)
Summary
146(1)
Suggestions for further reading
147(1)
Questions and problems
147(2)
Assignment questions
149(2)
Mechanics of options markets
151(16)
Underlying assets
151(1)
Specification of stock options
152(3)
Newspaper quotes
155(2)
Trading
157(1)
Commissions
157(1)
Margins
158(2)
The options clearing corporation
160(1)
Regulation
161(1)
Taxation
161(1)
Warrants, executive stock options, and convertibles
162(1)
Over-the-counter markets
163(4)
Summary
163(1)
Suggestions for further reading
164(1)
Questions and problems
164(1)
Assignment questions
165(2)
Properties of stock options
167(18)
Factors affecting option prices
167(3)
Assumptions and notation
170(1)
Upper and lower bounds for option prices
171(3)
Put-call parity
174(1)
Early exercise: calls on a non-dividend-paying stock
175(2)
Early exercise: puts on a non-dividend-paying stock
177(1)
Effect of dividends
178(1)
Empirical research
179(6)
Summary
180(1)
Suggestions for further reading
181(1)
Questions and problems
182(1)
Assignment questions
183(2)
Trading strategies involving options
185(15)
Strategies involving a single option and a stock
185(2)
Spreads
187(7)
Combinations
194(3)
Other payoffs
197(3)
Summary
197(1)
Suggestions for further reading
198(1)
Questions and problems
198(1)
Assignment questions
199(1)
Introduction to binomial trees
200(16)
A one-step binomial model
200(3)
Risk-neutral valuation
203(2)
Two-step binomial trees
205(3)
A put example
208(1)
American options
209(1)
Delta
210(1)
Matching volatility with u and d
211(1)
Binomial trees in practice
212(4)
Summary
213(1)
Suggestions for further reading
214(1)
Questions and problems
214(1)
Assignment questions
215(1)
A model of the behavior of stock prices
216(18)
The Markov property
216(1)
Continuous-time stochastic processes
217(5)
The process for stock prices
222(1)
Review of the model
223(2)
The parameters
225(1)
Ito's lemma
226(1)
The lognormal property
227(7)
Summary
228(1)
Suggestions for further reading
229(1)
Questions and problems
229(1)
Assignment questions
230(2)
Appendix 11A: Derivation of Ito's lemma
232(2)
The Black-Scholes model
234(33)
Lognormal property of stock prices
234(2)
The distribution of the rate of return
236(1)
The expected return
237(1)
Volatility
238(3)
Concepts underlying the Black-Scholes-Merton differential equation
241(1)
Derivation of the Black-Scholes-Merton differential equation
242(2)
Risk-neutral valuation
244(2)
Black-Scholes pricing formulas
246(2)
Cumulative normal distribution function
248(1)
Warrants issued by a company on its own stock
249(1)
Implied volatilities
250(1)
The causes of volatility
251(1)
Dividends
252(15)
Summary
256(1)
Suggestions for further reading
257(1)
Questions and problems
258(3)
Assignment questions
261(1)
Appendix 12A: Proof of Black-Scholes-Merton formula
262(3)
Appendix 12B: Exact procedure for calculating the values of American calls on dividend-paying stocks
265(1)
Appendix 12C: Calculation of cumulative probability in bivariate normal distribution
266(1)
Options on stock indices, currencies, and futures
267(32)
Results for a stock paying a known dividend yield
267(1)
Option pricing formulas
268(2)
Options on stock indices
270(6)
Currency options
276(2)
Futures options
278(6)
Valuation of futures options using binomial trees
284(2)
Futures price analogy
286(1)
Black's model for valuing futures options
287(1)
Futures options vs. spot options
288(11)
Summary
289(1)
Suggestions for further reading
290(1)
Questions and problems
291(3)
Assignment questions
294(1)
Appendix 13A: Derivation of differential equation satisfied by a derivative dependent on a stock providing a dividend yield
295(2)
Appendix 13B: Derivation of differential equation satisfied by a derivative dependent on a futures price
297(2)
The Greek letters
299(31)
Illustration
299(1)
Naked and covered positions
300(1)
A stop-loss strategy
300(2)
Delta hedging
302(7)
Theta
309(3)
Gamma
312(3)
Relationship between delta, theta, and gamma
315(1)
Vega
316(2)
Rho
318(1)
Hedging in practice
319(1)
Scenario analysis
319(1)
Portfolio insurance
320(3)
Stock market volatility
323(7)
Summary
323(1)
Suggestions for further reading
324(2)
Questions and problems
326(1)
Assignment questions
327(2)
Appendix 14A: Taylor series expansions and hedge parameters
329(1)
Volatility smiles
330(16)
Put-call parity revisited
330(1)
Foreign currency options
331(3)
Equity options
334(2)
The volatility term structure and volatility surfaces
336(1)
Greek letters
337(1)
When a single large jump is anticipated
338(1)
Empirical research
339(7)
Summary
341(1)
Suggestions for further reading
341(2)
Questions and problems
343(1)
Assignment questions
344(1)
Appendix 15A: Determining implied risk-neutral distributions from volatility smiles
345(1)
Value at risk
346(26)
The VaR measure
346(2)
Historical simulation
348(2)
Model-building approach
350(2)
Linear model
352(4)
Quadratic model
356(3)
Monte Carlo simulation
359(1)
Comparison of approaches
359(1)
Stress testing and back testing
360(1)
Principal components analysis
360(12)
Summary
364(1)
Suggestions for further reading
364(1)
Questions and problems
365(1)
Assignment questions
366(2)
Appendix 16A: Cash-flow mapping
368(2)
Appendix 16B: Use of the Cornish-Fisher expansion to estimate VaR
370(2)
Estimating volatilities and correlations
372(20)
Estimating volatility
372(2)
The exponentially weighted moving average model
374(2)
The GARCH(1,1) model
376(1)
Choosing between the models
377(1)
Maximum likelihood methods
378(4)
Using GARCH(1,1) to forecast future volatility
382(3)
Correlations
385(7)
Summary
388(1)
Suggestions for further reading
388(1)
Questions and problems
389(2)
Assignment questions
391(1)
Numerical procedures
392(43)
Binomial trees
392(7)
Using the binomial tree for options on indices, currencies, and futures contracts
399(3)
Binomial model for a dividend-paying stock
402(3)
Extensions to the basic tree approach
405(1)
Alternative procedures for constructing trees
406(4)
Monte Carlo simulation
410(4)
Variance reduction procedures
414(4)
Finite difference methods
418(9)
Analytic approximation to American option prices
427(8)
Summary
427(1)
Suggestions for further reading
428(2)
Questions and problems
430(2)
Assignment questions
432(1)
Appendix 18A: Analytic approximation to American option prices of MacMillan and of Barone-Adesi and Whaley
433(2)
Exotic options
435(21)
Packages
435(1)
Nonstandard American options
436(1)
Forward start options
437(1)
Compound options
437(1)
Chooser options
438(1)
Barrier options
439(2)
Binary options
441(1)
Lookback options
441(2)
Shout options
443(1)
Asian options
443(2)
Options to exchange one asset for another
445(1)
Basket options
446(1)
Hedging issues
447(1)
Static options replication
447(9)
Summary
449(1)
Suggestions for further reading
449(2)
Questions and problems
451(1)
Assignment questions
452(2)
Appendix 19A: Calculation of the first two moments of arithmetic averages and baskets
454(2)
More on models and numerical procedures
456(27)
The CEV model
456(1)
The jump diffusion model
457(1)
Stochastic volatility models
458(2)
The IVF model
460(1)
Path-dependent derivatives
461(4)
Lookback options
465(2)
Barrier options
467(5)
Options on two correlated assets
472(2)
Monte Carlo simulation and American options
474(9)
Summary
478(1)
Suggestions for further reading
479(1)
Questions and problems
480(1)
Assignment questions
481(2)
Martingales and measures
483(25)
The market price of risk
484(3)
Several state variables
487(1)
Martingales
488(1)
Alternative choices for the numeraire
489(3)
Extension to multiple independent factors
492(1)
Applications
493(2)
Change of numeraire
495(2)
Quantos
497(2)
Siegel's paradox
499(9)
Summary
500(1)
Suggestions for further reading
500(1)
Questions and problems
501(1)
Assignment questions
502(2)
Appendix 21A: Generalizations of Ito's lemma
504(2)
Appendix 21B: Expected excess return when there are multiple sources of uncertainty
506(2)
Interest rate derivatives: the standard market models
508(29)
Black's model
508(3)
Bond options
511(4)
Interest rate caps
515(5)
European swap options
520(4)
Generalizations
524(1)
Convexity adjustments
524(3)
Timing adjustments
527(2)
Natural time lags
529(1)
Hedging interest rate derivatives
530(7)
Summary
531(1)
Suggestions for further reading
531(1)
Questions and problems
532(2)
Assignment questions
534(2)
Appendix 22A: Proof of the convexity adjustment formula
536(1)
Interest rate derivatives: models of the short rate
537(34)
Equilibrium models
537(1)
One-factor equilibrium models
538(1)
The Rendleman and Bartter model
538(1)
The Vasicek model
539(3)
The Cox, Ingersoll, and Ross model
542(1)
Two-factor equilibrium models
543(1)
No-arbitrage models
543(1)
The Ho and Lee model
544(2)
The Hull and White model
546(3)
Options on coupon-bearing bonds
549(1)
Interest rate trees
550(2)
A general tree-building procedure
552(11)
Nonstationary models
563(1)
Calibration
564(1)
Hedging using a one-factor model
565(1)
Forward rates and futures rates
566(5)
Summary
566(1)
Suggestions for further reading
567(1)
Questions and problems
568(2)
Assignment questions
570(1)
Interest rate derivatives: more advanced models
571(23)
Two-factor models of the short rate
571(3)
The Heath, Jarrow, and Morton model
574(3)
The LIBOR market model
577(9)
Mortgage-backed securities
586(8)
Summary
588(1)
Suggestions for further reading
589(1)
Questions and problems
590(1)
Assignment questions
591(2)
Appendix 24A: The A(t, T), σp, and θ(t) functions in the two-factor Hull-White model
593(1)
Swaps revisited
594(16)
Variations on the vanilla deal
594(1)
Compounding swaps
595(3)
Currency swaps
598(1)
More complex swaps
598(3)
Equity swaps
601(1)
Swaps with embedded options
602(3)
Other swaps
605(1)
Bizarre deals
605(5)
Summary
606(1)
Suggestions for further reading
606(1)
Questions and problems
607(1)
Assignment questions
607(2)
Appendix 25A: Valuation of an equity swap between payment dates
609(1)
Credit risk
610(27)
Bond prices and the probability of default
610(9)
Historical data
619(1)
Bond prices vs. historical default experience
619(1)
Risk-neutral vs. real-world estimates
620(1)
Using equity prices to estimate default probabilities
621(2)
The loss given default
623(3)
Credit ratings migration
626(1)
Default correlations
627(3)
Credit value at risk
630(7)
Summary
633(1)
Suggestions for further reading
633(1)
Questions and problems
634(1)
Assignment questions
635(1)
Appendix 26A: Manipulation of the matrices of credit rating changes
636(1)
Credit derivatives
637(23)
Credit default swaps
637(7)
Total return swaps
644(1)
Credit spread options
645(1)
Collateralized debt obligations
646(1)
Adjusting derivative prices for default risk
647(5)
Convertible bonds
652(8)
Summary
655(1)
Suggestions for further reading
655(1)
Questions and problems
656(2)
Assignment questions
658(2)
Real options
660(18)
Capital investment appraisal
660(1)
Extension of the risk-neutral valuation framework
661(4)
Estimating the market price of risk
665(1)
Application to the valuation of a new business
666(1)
Commodity prices
667(3)
Evaluating options in an investment opportunity
670(8)
Summary
675(1)
Suggestions for further reading
676(1)
Questions and problems
676(1)
Assignment questions
677(1)
Insurance, weather, and energy derivatives
678(8)
Review of pricing issues
678(1)
Weather derivatives
679(1)
Energy derivatives
680(2)
Insurance derivatives
682(4)
Summary
683(1)
Suggestions for further reading
684(1)
Questions and problems
684(1)
Assignment questions
685(1)
Derivatives mishaps and what we can learn from them
686(11)
Lessons for all users of derivatives
686(4)
Lessons for financial institutions
690(3)
Lessons for nonfinancial corporations
693(4)
Summary
694(1)
Suggestions for further reading
695(2)
Glossary of notation 697(3)
Glossary of terms 700(15)
DerivaGem software 715(5)
Major exchanges trading futures and options 720(2)
Table for N(x) when x ≤ 0 722(1)
Table for N(x) when x ≥ 0 723(2)
Author index 725(4)
Subject index 729

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