Download Other Derivs - Financial Markets - Lecture Slides and more Slides Marketing in PDF only on Docsity! Other Derivatives docsity.com Option Parameters • Delta: Partial derivative of option price with respect to underlying price: ∂C/∂S • Gamma: Second partial derivative of option price with respect to underlying: ∂2C/∂S2 • Theta: Partial derivative of option price with respect to time ∂C/∂T. (Equals minus the partial derivative with respect to time remaining until exercise) • Vega: Partial derivative of option price with respect to volatility ∂C/∂σ docsity.com Call Delta 0C/0S
oO 20 40 tt} &0 hoo
Current stack price (5)
A=50 94 r=106 g*3
Figure 5-12 The Delta of a Call as a Function of the Current
Stock Price
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Volatility of Call Return / Volatility of Stock Return, Exercise Price = 20 0 5 10 15 20 25 0 5 10 15 20 25 30 35 40 45 Stock Price dl n( ca ll pr ic e) /d ln (s to ck p ric e) ∂log(C)/∂log(S) docsity.com Behavioral Aspects of Options Demand • Thaler’s mental categories theory • Writing an out-of-the-money call on a stock one holds, appears to be a win-win situation (Shefrin) • Buying an option is a way of attaining a more leveraged, risky position • Lottery principle in psychology, people inordinately attracted to small probabilities of winning big • Margin requirements are circumvented by options docsity.com Problems with Parallel Loan Agreements • Default Risk: loans are independent instruments, so default by one party does not release other from obligated payments • Balance sheet impact: parallel loans will inflate the balance sheet, which leads to possible problems with financial covenants, with public perception of safety of their stock docsity.com Efforts to Stabilize Earnings • Currency swings caused major changes in income statements of firms. • Zeckhauser and Patel show that firms rarely lose earnings, truncated distribution of earnings change • GE showed steadily growing earnings for last 20 years docsity.com Swaps as Parallel Loan Agreements “Stapled Together” • First privately arranged swaps occurred in mid 1970s • First public introduction of a currency swap between IBM and World Bank 1981. docsity.com MITTs: Market Index Target Term Securities • Traded on AMEX, often issued by Merrill Lynch • “What if I told you there’s an investment that will give you no downside but an unlimited upside?” • Example: Five-year MITTs issued in 1992 for $10 pay promise to pay the $10(1+x*1.15) back in five years, where x is percentage increase in the S&P if positive, otherwise zero. • Downsides: You get no dividends, your floor of $10 is pretty low given that interest rates were around 5% a year in 1992 docsity.com Why Options on Futures? • Futures market more liquid, up-to-date, than spot market • Easier to hedge an options position in futures market than in spot market docsity.com Futures on REITs • August 1998 Chicago Mercantile Exchange announced plan for futures on the S&P Real Estate Trust Composite Index • Screen-traded rather than open-outcry docsity.com
