Professional Documents
Culture Documents
Alan Shapiro
th 7
Edition
CHAPTER 8
CURRENCY FUTURES AND OPTIONS MARKETS
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CHAPTER OVERVIEW
I. FUTURES CONTRACTS II. CURRENCY OPTIONS
FUTURES CONTRACTS
2. IMM provides a. an outlet for hedging currency risk with futures contracts. b. Definition of futures contracts:
contracts written requiring
a standard quantity of an available currency at a fixed exchange rate at a set delivery date.
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FUTURES CONTRACTS
c. Available Futures Currencies:
5.) Euro 1.) British pound
2.) Canadian dollar 6.) Japanese yen 3.) Deutsche mark 7.) Australian dollar 4.) Swiss franc
FUTURES CONTRACTS
d. Standard Contract Sizes:
contract sizes differ for each of the 7 available currencies.
FUTURES CONTRACTS
e. Transaction costs: payment of commission to a trader Leverage is high 1.) Initial margin required is relatively low (e.g. less than .02% of sterling contract value).
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f.
FUTURES CONTRACTS
g. Maximum price movements 1.) Contracts set to a daily price limit restricting maximum daily price movements.
FUTURES CONTRACTS
2.) If limit is reached, a margin
call may be necessary to maintain a minimum margin.
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FUTURES CONTRACTS
h. Global futures exchanges that are competitors to the IMM:
1.) 2.) Deutsche Termin Bourse L.I.F.F.E.London International Financial Futures Exchange
3.)
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FUTURES CONTRACTS
4.)
5.)
S.I.M.E.X.Singapore International
Monetary Exchange H.K.F.E. Hong Kong Futures Exchange
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FUTURES CONTRACTS
B. Forward vs. Futures Contracts Basic differences:
1. Trading Locations 2. Regulation 3. Frequency of delivery 4. Size of contract 5. Delivery dates 6. Settlement Date 7. Quotes 8. Transaction costs 9. Margins 10. Credit risk
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FUTURES CONTRACTS
Advantages of futures: Disadvantages of futures:
1.) Smaller contract size 2.) Easy liquidation 3.) Well- organized and stable market.
1.) Limited to 7 currencies 2.) Limited dates of delivery 3.) Rigid contract sizes.
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CURRENCY OPTIONS
4. Definition: a contract from a writer ( the seller) that gives the right not the obligation to the holder (the buyer) to buy or sell a standard amount of an available currency at a fixed exchange rate for a fixed time period.
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CURRENCY OPTIONS
5. Types of Currency Options: a. American exercise date may occur any time up to the expiration date. b. European exercise date occurs only at the expiration date.
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CURRENCY OPTIONS
7. Exercise Price a. Sometimes known as the strike price. b. the exchange rate at which the option holder can buy or sell the contracted currency.
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CURRENCY OPTIONS
8. Status of an option a. In-the-money
Call: Put: Spot > strike Spot < strike Spot < strike Spot > strike
b. c.
Out-of-the-money At-the-money
Call: Put:
CURRENCY OPTIONS
9. The premium: the price of an
option that the writer charges
the buyer.
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CURRENCY OPTIONS
B. When to Use Currency Options 1. For the firm hedging foreign exchange risk
a. With sizable unrealized gains. b. With foreign currency flows forthcoming.
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CURRENCY OPTIONS
2. For speculators - profit from favorable exchange rate changes.
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CURRENCY OPTIONS
C. Option Pricing and Valuation 1. Value of an option equals a. Intrinsic value
b. Time value
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CURRENCY OPTIONS
2. Intrinsic Value the amount in-the-money
3. Time Value the amount the option is in excess of its intrinsic value.
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CURRENCY OPTIONS
4. Other factors affecting the value of an option a. value rises with longer time to expiration. b. value rises when greater volatility in the exchange rate.
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CURRENCY OPTIONS
5. Value is complicated by both the home and foreign interest rates.
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CURRENCY OPTIONS
D. Using Forward or Futures Contracts: Forward and futures contracts are more suitable for hedging a known amount of foreign currency flow.
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CURRENCY OPTIONS
E. Market Structure 1. Location a. Organized Exchanges b. Over-the-counter 1.) Two levels retail and wholesale
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