OFS-X06

OFS-X06
(PGDM-PT 2006-09 : Term-IX)

Options, Futures & Swaps
(Faculty: Prof. Naveen Bhatia)

COURSE OUTLINE

COURSE OBJECTIVE

The Course objective is to understand the application of Derivatives in Speculation (Various trading strategies) & Risk Management.(Risk reduction & Hedging).This would involve an in-depth study of the basic properties of options; put call parity (relationship between put & call option prices); risk - neutral approach to valuation of derivatives, starting from Binomial Model and leading to the famous “Black & Scholes” pricing model on option valuation. Derivatives are subject not only to the risk of underlying asset but also to the other risks (known as option Greeks). One of the very important objectives of the course is to understand the “Greeks” for various Directional & Volatility” based option strategies. Further , the course would also deal with interest rate and forex swaps which are important interest rate and foreign exchange risk management tools.

PRE –REQUISITES

Portfolio Management & pre-requisites to that course.

Basic Calculus

Portfolio Management Course will be taught parallely.

Students with non-engineering background need not worry, as the basic would be covered while doing the course. While the course does involve the so called “Rocket” Science Mathematics, more than the mathematics, it’s important to understand the economic rationale behind the concepts.

CAREER OPPORTUNITIES

1. Securities Trading Companies (Derivatives Trading, Institutional selling & Arbitrage)
2. Portfolio, Wealth Management /Mutual Funds

(Derivatives are an integral part of Fund Management Business. FIIs use them extensively, however the Domestic Mutual Funds are permitted to use derivatives only for Hedging.)

3. Treasury Operations in Corporates /Banks.

(While the course focus is on stocks derivatives the principle underlying the valuation and application for Forex derivatives are the same.)

4. Corporate Finance (Issue of Hybrid –Securities like Convertible Debentures)

(A Convertible Bond is a combination of a plain bond and equity option. Therefore valuation of the convertible bond requires knowledge of option.

PEDAGOGY

v The Basic Concepts would be taught through a series of the Lecture Sessions

v In each Lecture Session after learning the concept through an interactive process, the ‘application ‘ part would be taught through simulation kind of exercises on the ‘Excel’.

v Some of the major disasters for which the experts have often put the blame on ‘Derivatives’ would be discussed to find the real causes behind these disasters.

TEXT BOOKS

1. Options, Future & Other Derivatives – by John. C.Hull

Other References Books

1. Applied Derivatives – Richard .J. Rendleman, Jr

Special Focus on

Chap: 2 -- PUT – CALL Parity

Chap : 3 & 4 -- Binomial Option Pricing Models
2. Option Volatility & Pricing – Sheldon Naten Berg

An excellent book from options trading perspective. A handout on option Greeks will be given to students at the appropriate time.

3. The New Options Market – Max Ansbacher

Again an excellent book from option trading perspective. A handout on trading strategies will be given to the students.

4. Derivatives – The Wild beast of Finance – Alfred Steinherr

This books deals in detail with the following well-known disasters with Derivatives.

· Metallgesellschaft – (Rollover Risk)
· Barings (LESSON’S – CASE) – Highly speculation & Leverages position in Derivatives
· Hedge Funds & the collapse of LTCM (Long Term Capital Management)
In addition students would be given soft copy of ‘Excel Based Worksheets’ on various topics.However, students are advised to use these worksheets only for their reference and based on those worksheets make their own “Worksheets”

EVALUATION PATTERN

Assignments (5*10)	50 %
Final Comprehensive Examination	50 %

COURSE OUTLINE

Sr.no	Topics	Readings	Sessions
1	Introduction to Derivatives v Application of Derivatives – for Risk Management & Speculation (Leveraging) v Basic Terms & properties of Options / Futures / Forwards		1
2	Futures & Forwards v Pricing & Valuation of Futures/Forwards v Risk Management using Futures v Basis Risk v Introduction to Currencies /Commodity/Interest rate futures	Chapter 2 – 3 from HULL	1
3	Mechanics & Properties of Options v Boundry Conditions for options v Put-call parity and its interpretation v Options sensitivity to the o Underlying o Volatility o Strike price o Interest rate o Time to expiration	Chapter 7 & 8 from HULL	1
4	Basic Option strategies Trading 1. Directional Strategies (A naked Call/Put/Bull Call/Spread etc. 2. Volatility based strategies (Straddle/Strangle /Calendar Spread) 3. Economic Rationale behind spreading Risk Management 1. Protective Put 2. Covered Call	Chapter 9 from HULL	2
5	Introduction to Option Valuation 1. Binomial Model for Valuation 2. Risk Neutral probabilities and their interpretation 3. Binomial Model’s application for American options where the underlying pays the dividend	Chapter 10 from HULL	2
6	Black & Scholes Model · Understanding Weiner& Markov processes · Log – Normal distribution · ITO – LEMMA & its application in Stochastic processes · Using ITO – LEMMA – to derive Black & Scholes Model for stock /currency options · Interpreting the B & S formula · Seeing Options sensitivity to different variable using Excel	Chapter 11,12,13 from HULL	2
7	Understanding Options Greeks · Delta/Theta/Vega & Gamma risks of options · Understanding option Greeks for various trading strategies (volatility & Directional Spreads) · Delta /Dynamic Hedging and relating the cost of Delta hedging with the option price determined by Black & Scholes – Model. · Elasticity (Beta) of an option in the CAPM framework. This would “clarify” the “risk return” profile (which is often misunderstood for various options trading strategies)	Chapter 14 from HULL	2
8	Options Volatility · Historical & Implied Volatility · Volatility Smile · Term Structure of Volatility · Some advance Models of volatility estimation	Chapter 15 from HULL	1
9	Foreign Exchange and Interest rate Swaps · Basic Features & Application in Risk Management · Valuation Principles · Complex swaps and their valuation		3

Created By: Bijoy Kar on 10/27/2008 at 03:22 PM
Category: ExPGP-III Doctype: Document

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