71
f. describe the characteristics of forward rate agreements (FRAs);
A forward rate agreement or FRA is similar to a forward contract. Its payoff is based on an interest rate.
FRAs are typically based on rates like LIBOR or Euribor, quoted as an annual rate.
The underlying is for a specified term, such as 90 day LIBOR, 180 day Euribor etc.
One peculiarity of the FRA market is that it pays the amount due on the contract on the day of interest rate ascertainment. But the rate quoted in the market is for payment after the period specified with interest.
So, in general an FRA on an m-day interest pays off at expiration but the payoff is discounted for m days at the m-day rate.
Wednesday, February 27, 2008
Characteristics of Futures Contracts
a. describe the characteristics of futures contracts, and distinguish between futures
contracts and forward contracts;
A futures contract - is a type of forward contract with highly standardized and closely specified contract terms.
Distinguishing between a futures and a forward contract.
Differences between Futures contracts and Forward contracts:
Futures contracts always trade on an organized exchange.
Futures contracts are always highly standardized with a specific quantity of a good, with a specific delivery date and delivery mechanism.
Performance on futures contracts is guaranteed by a clearinghouse.
All futures require that traders post margin to trade. Margin is a good faith deposit.
Futures markets are regulated by an identifiable government agency, while forward contracts in general trade in an unregulated market.
contracts and forward contracts;
A futures contract - is a type of forward contract with highly standardized and closely specified contract terms.
Distinguishing between a futures and a forward contract.
Differences between Futures contracts and Forward contracts:
Futures contracts always trade on an organized exchange.
Futures contracts are always highly standardized with a specific quantity of a good, with a specific delivery date and delivery mechanism.
Performance on futures contracts is guaranteed by a clearinghouse.
All futures require that traders post margin to trade. Margin is a good faith deposit.
Futures markets are regulated by an identifiable government agency, while forward contracts in general trade in an unregulated market.
Margins in Futures Markets
LOS 72b
b. differentiate between margin in the securities markets and margin in the futures
markets; and define initial margin, maintenance margin, variation margin, and
settlement price;
Maintenance margin - When the value of the funds on deposit with a broker reach a certain level where the trader is required to replenish the margin.
Variation margin - The additional amount the trader must deposit to return to the maintenance margin.
Initial margin - The amount a trader must deposit before trading any futures.
b. differentiate between margin in the securities markets and margin in the futures
markets; and define initial margin, maintenance margin, variation margin, and
settlement price;
Maintenance margin - When the value of the funds on deposit with a broker reach a certain level where the trader is required to replenish the margin.
Variation margin - The additional amount the trader must deposit to return to the maintenance margin.
Initial margin - The amount a trader must deposit before trading any futures.
Friday, February 22, 2008
Closing Futures Contract
LOS
72
d. describe how a futures contract can be terminated by a close-out (i.e., offset) at
expiration (or prior to expiration), delivery, an equivalent cash settlement, or an
exchange-for-physicals;
----------------
Delivery and Cash Settlement of futures contracts
All contract eventually expire. Each contract has a delivery month.
The delivery procedures varies among contracts.
Most non-cash settled financial futures contracts permit delivery any business day of the delivery month.
Delivery is three day sequence. Two business days before the intended delivery day, the holder of the a short position intending to deliver notifies the clearing house of his intention to deliver through his clearing member. This is day is termed position day.
On the next business day, termed the notice of intention day, the exchane selects the holder of the oldest long position to receive delivery. On the third day, the delivery day, delivery takes place and the long position holder pay the short position holder who made the delivery.
For many of the financial futures delivery is consummated by wire transfer as the securities are with depositories and money is with banks.
On cash settled financial futures contracts, the settlement price on the last trading day is fixed at the closing spot price of the underlying instrument. All contracts are market to market at this settlement price and cash settlement takes place.
Offsetting: About 90 per cent of all futures contracts are not delivered.Most of the contracts get closed prior to expiration through a process called offsetting. The futures market is not the best route to acquire the underlying asset. Hence long position holders close their position before delivery month.
Exchange for physicals (EFP): Some contracts are actually delivered through this process. This transaction occurs outside the exchange, and is reported to the exchange and exchange accepts it to offset the positions of long and short position holders.
72
d. describe how a futures contract can be terminated by a close-out (i.e., offset) at
expiration (or prior to expiration), delivery, an equivalent cash settlement, or an
exchange-for-physicals;
----------------
Delivery and Cash Settlement of futures contracts
All contract eventually expire. Each contract has a delivery month.
The delivery procedures varies among contracts.
Most non-cash settled financial futures contracts permit delivery any business day of the delivery month.
Delivery is three day sequence. Two business days before the intended delivery day, the holder of the a short position intending to deliver notifies the clearing house of his intention to deliver through his clearing member. This is day is termed position day.
On the next business day, termed the notice of intention day, the exchane selects the holder of the oldest long position to receive delivery. On the third day, the delivery day, delivery takes place and the long position holder pay the short position holder who made the delivery.
For many of the financial futures delivery is consummated by wire transfer as the securities are with depositories and money is with banks.
On cash settled financial futures contracts, the settlement price on the last trading day is fixed at the closing spot price of the underlying instrument. All contracts are market to market at this settlement price and cash settlement takes place.
Offsetting: About 90 per cent of all futures contracts are not delivered.Most of the contracts get closed prior to expiration through a process called offsetting. The futures market is not the best route to acquire the underlying asset. Hence long position holders close their position before delivery month.
Exchange for physicals (EFP): Some contracts are actually delivered through this process. This transaction occurs outside the exchange, and is reported to the exchange and exchange accepts it to offset the positions of long and short position holders.
Tuesday, February 12, 2008
Future Markets and Contracts Part E
Reading 72
LOS
e. describe the characteristics of the following types of futures contracts: Eurodollar, Treasury bond, stock index, and currency.
---------------
Eurodollar futures contract
Trade Eurodollar Futures at Trade Center, LLC.
Eurodollars are U.S. dollars on deposit in commercial banks located outside of the United States. Eurodollars deposits play a major role in the international capital market, and they have long served as a benchmark interest rate for corporate funding.
The Eurodollar futures contract reflects the London Interbank Offered Rate (LIBOR) for a three-month, $1 million offshore deposit. Eurodollar deposits are direct obligations of the commercial banks accepting the deposits and are not guaranteed by any government. Although they represent low-risk investments, Eurodollar deposits are not risk-free.
CME developed and launched Eurodollar futures in 1981, and since then Eurodollar futures has evolved into one of the world’s most innovative and popular contracts—and is now the most actively traded futures contract in the world with open interest recently surpassed the four million mark.
CME Eurodollar futures are cash-settled, therefore, there is no delivery of a cash instrument upon expiration because cash Eurodollar time deposits are not transferable.
Eurodollar futures contract size has a principal value of $1,000,000 with a three-month maturity. Eurodollar futures move in 1 point increments, or .01, equaling $25.
The Eurodollar tick reflect the dollar value of a 1/100 of one percent change in a $1 million, 90-day deposit, determined by the following equation:
$1,000,000 notional value x .0001 x 90/360 = $25.
Trading can also occur in minimum ticks of .0025, or ¼ ticks, representing $6.25 per contract and in .005, or ½ ticks, representing $12.50 per contract. Eurodollar contracts trade Mar, Jun, Sep, Dec; Forty months in the March quarterly cycle, and the four nearest serial contract months
Since the Eurodollar contract’s inception, it has become one of the most versatile trading vehicles offered on the listed markets, offering numerous opportunities for hedgers and arbitrageurs. The contract’s exceptional growth and its adaptability and versatility continues to evolve due to nonstop enhancements. As a result, today’s Eurodollar contract offers even more trading opportunities.
Besides Eurodollar futures and options on futures, CME also developed the following as part of the Eurodollar contract:
Eurodollar Bundles—allow traders to simultaneously buy or sell a consecutive series of Eurodollar futures in equal proportions beginning with the front quarterly contract.
Eurodollar Packs—simultaneous purchase or sale of an equally weighted, consecutive series of four Eurodollar futures, quoted on an average net change basis from the previous day’s close.
Serial Eurodollars—identical to quarterly Eurodollar futures with the exception of expirations dates. Serial Eurodollars expire in months other than those in the March, June, September and December quarterly cycles.
Contract Specification for Eurodollar Futures
Trade Unit:
Eurodollar Time Deposit having a principal value of $1,000,000 with a three-month maturity.
Point Descriptions:
1 point = .01 = $25.00
Contract Listing:
Mar, Jun, Sep, Dec, Forty months in the March quarterly cycle, and the four nearest serial contract months.
Hours: 7:20 a.m.-2:00 p.m.Holidays LTD(Monday 5:00 a.m.)
Minimum Fluctuation:
Regular 0.01=$25.00
Half Tick 0.005=$12.50
Quarter 0.0025=$6.25 for nearest expiring month.
----------
Treasury Bond Futures
Contract Specification for 30 year T-Bond Futures
Contract Size
U.S. Treasury notes having a face value at maturity of $100,000 or multiple thereof.
Deliverable Grades
U.S. Treasury bonds that, if callable, are not callable for at least 15 years from the first day of the delivery month or, if not callable, have a maturity of at least 15 years from the first day of the delivery month. The invoice price equals the futures settlement price times a conversion factor plus accrued interest. The conversion factor is the price of the delivered bond ($1 par value) to yield 6 percent.
Tick Size
Minimum price fluctuations shall be in multiples of one thirty-second (1/32) point per 100 points ($31.25 per contract) except for intermonth spreads, where minimum price fluctuations shall be in multiples of one-fourth of one-thirty-second point per 100 points ($7.8125 per contract). Par shall be on the basis of 100 points. Contracts shall not be made on any other price basis.
Price Quote
Points ($1,000) and thirty-seconds of a point; for example, 80-16 equals 80 16/32
Contract Months
Mar, Jun, Sep, Dec
Last Trading Day
Seventh business day preceding the last business day of the delivery month.
Last Delivery Day
Last business day of the delivery month.
Delivery Method
Federal Reserve book-entry wire-transfer system
Trading Hours
Open Auction: 7:20 am - 2:00 pm, Central Time, Monday - Friday
Electronic: 7:01 pm - 4:00 pm, Central Time, Sunday - Friday
Trading in expiring contracts closes at noon, Central Time, on the last trading day
Daily Price Limit
None
--------
Stock Index Futures Contracts
DJIA Futures ($10 Multiplier)
Contract Size
Ten dollars ($10) times the Dow Jones Industrial Average Index. The DJIA is a price-weighted index of thirty (30) stocks.
Final Settlement Day
The third Friday of the contract month.
Settlement
Cash settlement on the final settlement day. The final settlement price is $10 times a Special Opening quotation of the index.
Tick Size
Minimum price increment is one index point (equal to $10 per contract).
Price Quote
The DJIA Index, quoted in index points.
Contract Months
Mar, Jun, Sep, Dec. Four nearest months in March quarterly cycle and two additional December contracts listed at all times.
Last Trading Day
The trading day preceding the final settlement day.
Trading Platform
Open Auction and Electronic.
Trading Hours
Monday: Thursday 3:30 pm - 4:30 pm and 5:00 pm - 8:15 am next day
Sunday: 5:00 pm - 8:15 am next day
Trading in expiring contracts ceases at 3:15 p.m. Central Time on the last trading day.
Ticker Symbols
Open Auction: DJ
Electronic: ZD
Fungibility
BIG Dow futures ($25 multiplier), mini-sized Dow futures ($5 multiplier), and DJIA futures ($10 multiplier) are fungible contracts
Daily Price Limit
Successive 10%, 20%, and 30% limits. For details, please see CBOT Regulation 1008.01.
Position Limits
The aggregate position limit in BIG Dow futures ($25 multiplier), mini-sized futures and options ($5 multiplier), and DJIA futures and options ($10 multiplier) is 50,000 DJIA futures ($10 multiplier) equivalent contracts, net long or short in all contract months combined.
http://www.cbot.com/cbot/pub/cont_detail/1,3206,1411+14424,00.html
---------------
currecny futures
CME Japanese Yen Futures
Trade Unit 12,500,000 Japanese yen
Point Descriptions 1 point = $.000001 per Japanese yen = $12.50 per contract
Contract Listing Six months in the March Quarterly Cycle, Mar, Jun, Sep. Dec.
Minimum Fluctuation
Regular 0.000001=$12.50
Calendar Spread 0.0000005=$6.25
All or None 0.0000005=$6.25
http://www.cme.com/trading/prd/fx/japanese_FCS.html
LOS
e. describe the characteristics of the following types of futures contracts: Eurodollar, Treasury bond, stock index, and currency.
---------------
Eurodollar futures contract
Trade Eurodollar Futures at Trade Center, LLC.
Eurodollars are U.S. dollars on deposit in commercial banks located outside of the United States. Eurodollars deposits play a major role in the international capital market, and they have long served as a benchmark interest rate for corporate funding.
The Eurodollar futures contract reflects the London Interbank Offered Rate (LIBOR) for a three-month, $1 million offshore deposit. Eurodollar deposits are direct obligations of the commercial banks accepting the deposits and are not guaranteed by any government. Although they represent low-risk investments, Eurodollar deposits are not risk-free.
CME developed and launched Eurodollar futures in 1981, and since then Eurodollar futures has evolved into one of the world’s most innovative and popular contracts—and is now the most actively traded futures contract in the world with open interest recently surpassed the four million mark.
CME Eurodollar futures are cash-settled, therefore, there is no delivery of a cash instrument upon expiration because cash Eurodollar time deposits are not transferable.
Eurodollar futures contract size has a principal value of $1,000,000 with a three-month maturity. Eurodollar futures move in 1 point increments, or .01, equaling $25.
The Eurodollar tick reflect the dollar value of a 1/100 of one percent change in a $1 million, 90-day deposit, determined by the following equation:
$1,000,000 notional value x .0001 x 90/360 = $25.
Trading can also occur in minimum ticks of .0025, or ¼ ticks, representing $6.25 per contract and in .005, or ½ ticks, representing $12.50 per contract. Eurodollar contracts trade Mar, Jun, Sep, Dec; Forty months in the March quarterly cycle, and the four nearest serial contract months
Since the Eurodollar contract’s inception, it has become one of the most versatile trading vehicles offered on the listed markets, offering numerous opportunities for hedgers and arbitrageurs. The contract’s exceptional growth and its adaptability and versatility continues to evolve due to nonstop enhancements. As a result, today’s Eurodollar contract offers even more trading opportunities.
Besides Eurodollar futures and options on futures, CME also developed the following as part of the Eurodollar contract:
Eurodollar Bundles—allow traders to simultaneously buy or sell a consecutive series of Eurodollar futures in equal proportions beginning with the front quarterly contract.
Eurodollar Packs—simultaneous purchase or sale of an equally weighted, consecutive series of four Eurodollar futures, quoted on an average net change basis from the previous day’s close.
Serial Eurodollars—identical to quarterly Eurodollar futures with the exception of expirations dates. Serial Eurodollars expire in months other than those in the March, June, September and December quarterly cycles.
Contract Specification for Eurodollar Futures
Trade Unit:
Eurodollar Time Deposit having a principal value of $1,000,000 with a three-month maturity.
Point Descriptions:
1 point = .01 = $25.00
Contract Listing:
Mar, Jun, Sep, Dec, Forty months in the March quarterly cycle, and the four nearest serial contract months.
Hours: 7:20 a.m.-2:00 p.m.Holidays LTD(Monday 5:00 a.m.)
Minimum Fluctuation:
Regular 0.01=$25.00
Half Tick 0.005=$12.50
Quarter 0.0025=$6.25 for nearest expiring month.
----------
Treasury Bond Futures
Contract Specification for 30 year T-Bond Futures
Contract Size
U.S. Treasury notes having a face value at maturity of $100,000 or multiple thereof.
Deliverable Grades
U.S. Treasury bonds that, if callable, are not callable for at least 15 years from the first day of the delivery month or, if not callable, have a maturity of at least 15 years from the first day of the delivery month. The invoice price equals the futures settlement price times a conversion factor plus accrued interest. The conversion factor is the price of the delivered bond ($1 par value) to yield 6 percent.
Tick Size
Minimum price fluctuations shall be in multiples of one thirty-second (1/32) point per 100 points ($31.25 per contract) except for intermonth spreads, where minimum price fluctuations shall be in multiples of one-fourth of one-thirty-second point per 100 points ($7.8125 per contract). Par shall be on the basis of 100 points. Contracts shall not be made on any other price basis.
Price Quote
Points ($1,000) and thirty-seconds of a point; for example, 80-16 equals 80 16/32
Contract Months
Mar, Jun, Sep, Dec
Last Trading Day
Seventh business day preceding the last business day of the delivery month.
Last Delivery Day
Last business day of the delivery month.
Delivery Method
Federal Reserve book-entry wire-transfer system
Trading Hours
Open Auction: 7:20 am - 2:00 pm, Central Time, Monday - Friday
Electronic: 7:01 pm - 4:00 pm, Central Time, Sunday - Friday
Trading in expiring contracts closes at noon, Central Time, on the last trading day
Daily Price Limit
None
--------
Stock Index Futures Contracts
DJIA Futures ($10 Multiplier)
Contract Size
Ten dollars ($10) times the Dow Jones Industrial Average Index. The DJIA is a price-weighted index of thirty (30) stocks.
Final Settlement Day
The third Friday of the contract month.
Settlement
Cash settlement on the final settlement day. The final settlement price is $10 times a Special Opening quotation of the index.
Tick Size
Minimum price increment is one index point (equal to $10 per contract).
Price Quote
The DJIA Index, quoted in index points.
Contract Months
Mar, Jun, Sep, Dec. Four nearest months in March quarterly cycle and two additional December contracts listed at all times.
Last Trading Day
The trading day preceding the final settlement day.
Trading Platform
Open Auction and Electronic.
Trading Hours
Monday: Thursday 3:30 pm - 4:30 pm and 5:00 pm - 8:15 am next day
Sunday: 5:00 pm - 8:15 am next day
Trading in expiring contracts ceases at 3:15 p.m. Central Time on the last trading day.
Ticker Symbols
Open Auction: DJ
Electronic: ZD
Fungibility
BIG Dow futures ($25 multiplier), mini-sized Dow futures ($5 multiplier), and DJIA futures ($10 multiplier) are fungible contracts
Daily Price Limit
Successive 10%, 20%, and 30% limits. For details, please see CBOT Regulation 1008.01.
Position Limits
The aggregate position limit in BIG Dow futures ($25 multiplier), mini-sized futures and options ($5 multiplier), and DJIA futures and options ($10 multiplier) is 50,000 DJIA futures ($10 multiplier) equivalent contracts, net long or short in all contract months combined.
http://www.cbot.com/cbot/pub/cont_detail/1,3206,1411+14424,00.html
---------------
currecny futures
CME Japanese Yen Futures
Trade Unit 12,500,000 Japanese yen
Point Descriptions 1 point = $.000001 per Japanese yen = $12.50 per contract
Contract Listing Six months in the March Quarterly Cycle, Mar, Jun, Sep. Dec.
Minimum Fluctuation
Regular 0.000001=$12.50
Calendar Spread 0.0000005=$6.25
All or None 0.0000005=$6.25
http://www.cme.com/trading/prd/fx/japanese_FCS.html
Options - Part A European Option, American Option
Reading 73: Option Markets and Contracts
LOS
The candidate should be able to:
a. define European option, American option, and moneyness, and differentiate
between exchange-traded options and over-the-counter options;
--------
Reference: An INtroduction to Derivatives and Risk Management by Don Chance
An option is a contract between two parties - a buyer and a seller- that gives the buyer the right, but not the obligation to purchase or sell something at a later date at a price agreed upon today.
the option buyer pays the seller the price or premium for the option that he is buying.
There are two types of basic options.
Call option:An option to buy is called a call.
Put option: An option to sell is called a put.
Options now trade in organized exchanges. But the creation of an organized options exchange was done in 1973 only. Prior to that options were bought and sold through dealers as contract between two parties. This type of market, called anover the counter market was actually the first type of options market.
Over the counter market is active now also and is used by corporations and financial institutions to enter into contracts tailor made for their requirements.
While options on OTC can have terms are convenient to the parties involved, exchange traded contract have various features standardized and prescribed by the exchange.
They are assets for which options are traded, contract size, exercise price, expiration date, position abd exercuse limits.
European option and American option,
European Call and American Call
European options can be exercised only on the termination date of the option. The buyer can demand delivery of the underlying asset or choose to allow the option (call) unexercised on the termination date. Till that termination date, he has no interaction with the option writer.
In the case of American option (call), the buyer can exercise the option on any day till the maturity day. The writer of seller of the option has to deliver on the day the buyer makes the demand for delivery.
Moneyness of an option
Moneyness is a relation between the current market price of the asset underlying an option contract.
In case of calls
If the current market price is equal to the exercise price the call is said to be at the money.
If the current market price is higher than the exercise price the call is said to be in the money.
If the current market price is lower than the exercise price the call is said to be out of the money.
LOS
The candidate should be able to:
a. define European option, American option, and moneyness, and differentiate
between exchange-traded options and over-the-counter options;
--------
Reference: An INtroduction to Derivatives and Risk Management by Don Chance
An option is a contract between two parties - a buyer and a seller- that gives the buyer the right, but not the obligation to purchase or sell something at a later date at a price agreed upon today.
the option buyer pays the seller the price or premium for the option that he is buying.
There are two types of basic options.
Call option:An option to buy is called a call.
Put option: An option to sell is called a put.
Options now trade in organized exchanges. But the creation of an organized options exchange was done in 1973 only. Prior to that options were bought and sold through dealers as contract between two parties. This type of market, called anover the counter market was actually the first type of options market.
Over the counter market is active now also and is used by corporations and financial institutions to enter into contracts tailor made for their requirements.
While options on OTC can have terms are convenient to the parties involved, exchange traded contract have various features standardized and prescribed by the exchange.
They are assets for which options are traded, contract size, exercise price, expiration date, position abd exercuse limits.
European option and American option,
European Call and American Call
European options can be exercised only on the termination date of the option. The buyer can demand delivery of the underlying asset or choose to allow the option (call) unexercised on the termination date. Till that termination date, he has no interaction with the option writer.
In the case of American option (call), the buyer can exercise the option on any day till the maturity day. The writer of seller of the option has to deliver on the day the buyer makes the demand for delivery.
Moneyness of an option
Moneyness is a relation between the current market price of the asset underlying an option contract.
In case of calls
If the current market price is equal to the exercise price the call is said to be at the money.
If the current market price is higher than the exercise price the call is said to be in the money.
If the current market price is lower than the exercise price the call is said to be out of the money.
Options - Part B
LOS
b. identify the types of options in terms of the underlying instruments;
Types of options
Stock options
Index options
Currency options
Options on bonds
Interest rate options
Real options - Corporate investment decisions
b. identify the types of options in terms of the underlying instruments;
Types of options
Stock options
Index options
Currency options
Options on bonds
Interest rate options
Real options - Corporate investment decisions
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