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60 Cards in this Set
- Front
- Back
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sigma
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volatility estimate
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What are the 6 assumptions of the Black-Scholes model?
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1. The stock pays no dividends during the option's life.
2. European exercise style. 3. Markets are efficient. 4. No transaction costs. 5. Interest rates remain constant. 6. Prices are lognormally distributed. |
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implied volatility
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Instead of solving for the call premium, assume the market-determined call premium is correct and solve for the volatility that makes the equation hold
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historical volatility
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The volatility from a past series of prices.
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volatility smile
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The characteristic curve you get when plotting implied volatility against striking price.
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delta
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The change in option premium expected from a small change in the stock price.
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Describe three common uses of delta.
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1. Measure of option sensitivity to the stock price.
2. Hedge ratio - number of shares to mimic the underlying. 3. Likelihood of becoming in-the-money. |
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theta
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A measure of the sensitivity of a call option to the time remaining until its expiration.
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gamma
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The second derivative of the option premium with respect to the stock price and the first derivative of delta with respect to the stock price. Best when near zero.
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vega
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The first partial derivative of the BSOPM with respect to the volatility of the underlying asset.
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rho
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The first partial derivative of the BSOPM with respect to the risk-free interest rate.
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futures contract
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A legally binding agreement to buy or sell something in the future.
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delivery month
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A month when a standardized commodity must be delivered to a designated location.
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forward contract
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An agreement between a business and a financial institution, usually a bank, to exchange something at a set price in the future.
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CFTC
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Commodity Futures Trading Commission ensures a fair futures market.
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National Futures Association
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Enforces financial and membership requirements. Provides customer protection.
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spot price
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Current price.
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long hedge
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Buy contracts, promising to pay a set price when the commodity is delivered.
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short hedge
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Sell contracts, promising to deliver the commodity for a set price.
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open outcry
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When traders verbally call out buy and sell orders.
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hedger
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Someone engaged in a business activity where there is an unacceptable level of price risk.
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putting on a crush
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Buying beans, selling oil, and selling meal.
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speculator
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Someone who is willing to bear the risk that hedgers want to eliminate.
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out trades
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Mismatched trades resulting in an Unmatched Trade Notice.
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marked to the market
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Funds are transferred from one account to another based on unrealized (or paper) gains and losses.
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open interest
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A measure of how many futures contracts in a given commodity exist at a particular time.
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market variation call
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When the president of the Clearing Corporation calls on members to deposit more funds into their account during the day.
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daily price limit
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The price of a contract is not allowed to move by more than a predetermined amount each trading day.
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expectations hypothesis
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The futures price for a commodity is what the marketplace expects the cash price to be when the delivery month arrives.
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price discovery
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An important function that futures perform by giving a reliable estimate based on current information.
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basis
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The difference between the future price of a commodity and the current cash price.
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contango market
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The futures price exceeds the cash price.
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backwardation (inverted market)
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The futures price is less than the cash price.
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full carrying charge market
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When futures prices reflect the cost of storing and financing the commodity until the delivery month.
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arbitrage
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Exists if someone can buy a commodity, store it at a known cost, and get someone to promise to buy it later at a price that exceeds the cost of storage.
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intercommodity spread
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A long and short position in two related commodities, perhaps corn and live cattle.
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intermarket spread
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Opposite positions in two different markets; for example, the Chicago Board of Trade and the Kansas City Board of Trade.
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intracommodity spread
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Different positions in different delivery months, but in the same commodity.
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warrant
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A nondivident-paying security giving its owner the right to buy a certain number of shares at a set price directly from the issuing company.
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warrant hedge
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An investor buys shares of stock and simultaneously sells short warrants on the same company.
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when-issued stock
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Shares of stock issued in conjunction with a stock split before these new shares are distributed to existing shareholders.
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Name 3 bond risks.
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1. Credits risk
2. Interest rate risk 3. Reinvestment rate risk |
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credit risk
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The likelihood that a borrower will be unable or unwilling to repay a loan as agreed.
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interest rate risk
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A consequence of the fundamental fact that the present value of a bond's cash flows moves inversely with the discount rate.
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duration
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The most widely used measure of a bond's interest rate risk.
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reinvestment rate risk
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The uncertainty associated with not knowing at what rate money can be put back to work after the receipt of an interest check.
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duration matching
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A term for the general process of selecting a level of duration that minimizes the combined effects of reinvestment rate risk and interest rate risk.
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bullet immunization
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Seeks to ensure that a predetermined sum of money is available at a specific time in the future regardless of the path interest rates take.
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bank immunization
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Holding interest-sensitive liabilities.
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rate sensitive
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Value changes as the level of interest rates changes.
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funds gap
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The dollar value of its interest rate sensitive assets (RSA) minus its interest rate sensitive liabilities (RSL).
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duration shifting
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Continue to bear interest rate risk but reduce its level.
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basis point value
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The change in the price of a bond for a one basis point change in the yield to maturity of the bond.
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strip
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Buy 1 at the money call and 2 at the money puts. Modified straddle (more bearish).
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strap
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But 1 at the money put and 2 at the money calls. Modified straddle (more bullish).
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long box
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Buy 40 call, sell 45 call. Buy 45 put, sell 40 put. Do it for less than 5.
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short box
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Sell 40 call, buy 45 call. Sell 45 put, buy 40 put. Do it for more than 5.
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Reversal
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Sell short stock, buy calls, and sell puts.
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Conversion
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Buy long stock, buy puts, and sell calls.
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ex-dividend date
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2 business days before the date of record. On or after does not entitle you to the dividend.
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