18-7-2020

OFD session 1

Risk is not always bad. You always take some amount of risk in your life from time to time. It is
uncertainty and it has both upside and downside.

How to handle downside risk? Eliminate it, share it, mitigate it (derivatives)

Derivative- an instrument whose value depends or derived from the value of another asset. Eg:
futures, forwards, swaps, etc.

They are trades over exchanges and are sold in lots and not like shares. Have to spend a lot to get in
the market and so don’t get into in until you’re sure of it.

Warren buffet makes money using a convertible bond by buying the bond and then converting it if
the price rises.

No storage cost, lock in the price now

Long position – buying, short position – selling, measure of time. Buy to keep for longer time.

Non-trivial counter party risk-chance to default even with contract. Not regulated and OTC so no
clearing houses involved.
Illiquid because between two people. And chance of default. Contracts are designed such that both
of them are able to get over these.

Accounting rule of marked to market counts in unrealized loss

Lag indicators from macro economic news
 Why discount at risk free rate? There is no rick at
all. 100% knows will get return. If it is risky then cash flow will be discounted by Rd.

Expire in 6 months
Cost of setting