L1 Ch1&2 Intro & Futures Market Mechanics

L1 Ch1&2 Intro & Futures Market Mechanics -...

Info iconThis preview shows pages 1–3. Sign up to view the full content.

View Full Document Right Arrow Icon
Lecture 1 (Ch 1&2): Introduction & Futures Market Mechanics What is a Derivative? A derivative is defined as a financial instrument whose value depends on the values of other, more basic underlying variables. Very often the variables underlying derivatives are the prices of traded assets. 4 major categories: stocks & stock indices, fixed income securities, foreign currency and commodities. Exchanges Standard products Virtually no credit (default) risk Open outcry trading system and electronic trading system For example, Chicago Board of Trade (CBOT), Chicago Over-the-Counter Non-standard products key advantage is the ability to negotiate a mutually attractive deal. Some credit risk Telephone- and computer-linked network OTC Markets are much larger then exchange markets Trades are done over the phone and usually between two financial institutions or between a financial institution and a client. Financial institutions often act as market makers. Types of Traders Categorized as either; Commission brokers; trading on behalf of clients, or Locals; trading their own account. From there either may be broken down into: Hedgers hold positions in spot market and seek to protect themselves against price changes in the underlying asset. Their objective is to reduce their risk (example page 10-11). Speculators attempt to profit from predicting the market (example page 11-13).
Background image of page 1

Info iconThis preview has intentionally blurred sections. Sign up to view the full version.

View Full Document Right Arrow Icon
o Scalpers ; profiting from small changes in contract price, Day Traders ; hold positions for less than one trading day, Position Traders ; hold their positions for much longer periods of time. Arbitrageurs make a risk-free profit by entering into transactions in two or more markets at the same time (example page 14). Uses of Derivatives To hedge risks To reflect a view on the future direction of the market To lock in a riskless arbitrage profit To change the nature of a liability To change the nature of an investment without incurring the costs of selling one portfolio and buying another To set executive compensation plans To enhance trading efficiency To foster a complete market Forward Contracts A forward contract is an agreement between two parties, a buyer and a seller, to buy (long) or sell (short) an asset at a certain time in the future (the maturity or delivery date) with a price (the delivery price) agreed upon today . Forward contracts are similar to futures except that they trade in the over-the-counter market Forward contracts are particularly popular on currencies and interest rates Traded over-the-counter (OTC) (settled at maturity) No money changes hands when first negotiated Neither party can get out of commitment Each party is subject to the default of the other Forward price “ F ” is the price to be paid for the underlying asset at contract maturity. When a contract is entered into, this becomes the delivery price (“
Background image of page 2
Image of page 3
This is the end of the preview. Sign up to access the rest of the document.

{[ snackBarMessage ]}

Page1 / 10

L1 Ch1&2 Intro & Futures Market Mechanics -...

This preview shows document pages 1 - 3. Sign up to view the full document.

View Full Document Right Arrow Icon
Ask a homework question - tutors are online