OBJECTIVES: The course will begin from first principles, and does not pre-suppose any knowledge of the subject. Students are however expected to be comfortable with the basic principles of Finance that are covered during the first year of the PGP program. A fair knowledge of mathematical and quantitative techniques is expected. But no one is expected to demonstrate Rocket Science related skills. Advanced topics such as Stochastic Calculus, which will be required for the study of options, will be introduced whenever required. The most important requirement for such courses is that students should not have a phobia of mathematics.
In the process of the study of Derivatives and Derivative Markets there will arise a need for knowledge of the underlying primary securities and their markets, such as stocks, bonds, stock indices, and foreign exchange. The fundamentals of such instruments and markets will be covered during the course, in order to ensure that all students are brought to the same knowledge plane. Issues pertaining to the operation of derivatives exchanges, and placement and execution of orders on such exchanges will also be dealt with in this course.
Summary: In order to ensure that advanced concepts of futures and options are given adequate coverage, the course has been split into three parts with a combined credit of 4.50 instead of the usual 3.0 credits. This is the first of the three courses and focuses on forward and futures contracts.
The course commences with a detailed introduction to derivative markets in general and futures markets in particular. At this stage options and swaps are briefly introduced although they are not a focus area of this course. The objective is to put things in perspective and enable students to compare and contrast these derivative instruments.
The focus then shifts to trading on both electronic order driven platforms as well as open-outcry systems. These aspects are usually not covered in many conventional MBA courses and consequently students find this to be a welcome addition.
The valuation of futures and forward contracts and the use of such instruments for the purpose of hedging and speculation are the next topics of attention. Once again, while discussing tools for hedging and speculation the relevant comparisons are made with options based strategies.
Since interest rate derivatives are covered in a separate course, the product based focus of this course is on only two markets namely, foreign exchange and stock and index futures. The Indian foreign exchange forward market has its own conventions for the modification of contracts. These intricacies are elaborated upon. Examples, throughout the course, are given from both the Indian market as well as the markets in developed economies.
METHODOLOGY: These courses will rely primarily on the lecture method. There is a prescribed textbook for all the courses. Detailed reading material for topics not covered in the book will be distributed. A number of excellent reference books are available and serious students are strongly encouraged to read further.
Power Point will be the mode of presentation in class. Copies of the transparencies will be uploaded so that students can refer to them and take printouts if required.
The reading material and the transparencies are to a large extent self-explanatory. However some of the subtle nuances of the subject can be appreciated only by having an active and meaningful discussion in class. Consequently regular attendance and focused study is absolutely essential.
Introduction to Futures (2 Sessions)
- Cash/Spot versus Forward Contracts - Introduction to Options - Introduction to Swaps - Forward Contracts versus Futures Contracts - Standardization and the Role of the Exchange - The Clearinghouse - Margins and Marking-to-Market - Arbitrage - Spot-Futures Convergence at Expiration - Delivery - Trading Volume versus Open Interest - Multiple Deliverable Grades and Conversion Factors - Profit Profiles - Types of Underlying Assets - Futures Exchanges - Hedgers and Speculators - Leverage - The Economic Role of Futures and Options - Reasons for the Rapid Growth of Derivative Markets Orders & Exchanges (1 Session)
- Market Orders and Limit Orders - Marketable Limit Orders - Trade Pricing Rules - Stop-Loss Orders - Stop-Limit Orders - Market-if-Touched Orders - Equivalence of Limit Orders and Options - Validity Conditions - Open-Outcry Trading Systems - Electronic Trading versus Open-Outcry Trading: Merits and Demerits Valuation of Futures Contracts (2 Sessions)
- Assumptions - Forward Contracts on a Security that pays No Income - Repos and Reverse Repos - Short-Selling - The Value of a Forward Contract - Forward Contracts on a Security that pays a Known Income - Forward Contracts on a Security that pays a Known Dividend Yield - Forward Contracts on Commodities - Investment Assets - Consumption Assets - Calendar Spreads and Arbitrage - Net Carry - Backwardation and Contango - Delivery Options - Imperfect Markets - Synthetic Securities - Forward Prices versus Futures Prices - Stochastic Interest Rates - Quasi-Arbitrage - Risk and Futures Prices - Risks Inherent in Arbitrage Hedging and Speculation (2 Sessions)
- Selling and Buying Hedges - Options and Hedging - Futures versus Options - Ex-post Regret - Cash Versus Delivery Settlement - A Perfect Hedge - Basis Risk - Selecting a Futures Contract - A Rolling Hedge - The Minimum Variance Hedge Ratio - Estimating the Hedge Ratio - Tailing a Hedge - Hedging Processing Margins - Speculation with Futures - Speculation with Options - Developing Derivative Exchanges Foreign Exchange Forwards and Futures (1.5 Sessions)
- Purchase and Sale Transactions - The Spot Market - The Forward Market - The No-Arbitrage Forward Price - One-way Arbitrage - The Relationship Between Interest Rate Parity and One-way Arbitrage - Option Forwards - FOREX Futures - Hedging an Import Transaction - Hedging an Export Transaction - Creating Synthetic Investments - Borrowing Funds Abroad - Currency Futures and Forward in India - Modification of Forward Contracts in the Indian Market Stock and Stock Index Futures (1.5 Sessions)
- Cash Dividends - Stock Dividends - Splits and Reverse Splits - Pre-emptive Rights - Adjustment of Futures Contracts for Corporate Actions - Types of Stock Indices - Tracking Portfolios - Major Market Indices - Stock Index Futures - Pricing of Stock Index Futures - Index Arbitrage and Program Trading - Hedging With Index Futures - Market Timing with Index Futures - Using Index Futures to Change the Beta - Stock Picking - Portfolio Insurance - Index Futures and Volatility
Suggested Readings/ References:
Text Book: Futures and Options: Concepts and Applications by Sunil Parameswaran, Tata McGraw-Hill
Reference Books:
1. Fundamentals of Futures and Options Markets by John Hull, (Prentice Hall).
2. An Introduction to Derivatives and Risk Management by Chance (South Western).
3. Futures and Options by Edwards and Ma, McGraw-Hill.
4. Futures, Options, and Swaps by Robert Kolb (Blackwell).
5. Derivatives Markets by McDonald (Pearson).
6. Options, Futures, and Other Derivatives by John Hull, Prentice Hall.
7. Options and Financial Futures by Dubofsky, McGraw-Hill.
8. Fixed Income Markets and Their Derivatives by Suresh Sundaresan (Academic Press).
1. Quiz-30%: This will be MCQ based and will have 40% negative marking. 2. Homework-30%: This will be a problem based assignment to be attempted in groups of not more than five members. 3. End-Term Examination-40%: This will be based on logical reasoning and calculation oriented problems. There will be no negative marking. The exam will be Open-Book and Open-Laptop. Created By: Debasis Mohanty on 08/11/2010 at 03:12 PM Category: PGDM-II Doctype: Document