CFA Level II: Derivatives

CFA Level II
http://www.zejicert.cn
Derivatives
CONTENTS
目录
Pricing and Valuation of Forward
Commitments
Valuation of Contingent Claims

Warm-up
 Pricing: 确定远期价格（t=0）.
 Valuation: 签订合约期间的某一时刻是
否赚钱（t =t）.
 合约签订期初时，双方的价值都为0
（forward commitment）。
Warm-up
t=0 Pricing
t=t Valuation
t=T Settlement
Pricing and Valuation of Forward Commitments
 No-Arbitrage Rule
 Equity Forward and Futures
 Interest Rate Forward and Futures (FRA)
 Fixed-income Forward and Futures
 Currency Forward and Futures
 Interest Rate Swap
 Currency Swap
 Equity Swap
Non-Arbitrage Principle
 Arbitrage: 在不同市场同时买卖相同资产并获利
（低买高卖）.
 Arbitrage opportunities: 相同的东西卖不同的价格.
 The no-arbitrage principle(Law of one price): 不

存在任何套利机会.
 The no-arbitrage principle 可以用来对衍生品进行
定价。
 FP=S0×(1+Rf)T
 Cash-and-carry Arbitrage: 正向套利。
 If FP>S0×(1+Rf )T
At initiation At settlement date

1. 借钱 S0 1. 把资产交割给long方
2. 买资产 2. 获得FP的现金
3. Short一份远期合约 3. 偿还本金和利息
Profit=FP-S0×(1+Rf)T
 Reverse-cash-and-carry Arbitrage: 反向套利。
 If FP<S0×(1+Rf )T
At initiation At settlement date

1. 卖空标的资产，获得S0的现金 1. 支付给short方FP的现金
2. 存银行 2. 把标的资产还给借出资产的一方
3. Long一份远期合约 3. 获得本金和利息
Profit=S0×(1+Rf )T-FP
 General pricing formula:
 FP=(S0-PVbenefit+PVcost)×(1+Rf)T

 Currency Swap
 Equity Swap
Equity Forward and Futures
 Forward contracts on a dividend-paying stock
 Price: FP=(S0-PVD0)×(1+Rf)T
 Value at time t: Vlong=St-PVDt-FP/(1+Rf)(T-t)
Example1
Calculate the no-arbitrage forward price for a 120-
day forward on a stock that is currently priced at
$20.00 and is expected to pay a dividend of $0.5
in 15 days, $0.5 in 75 days, and $0.50 in 180
days. The annual risk-free rate is 3%, and the

yield curve is flat.
0.5 0.5
PVD = + =$0.9964
1.0315/365 1.0375/365
FP = ($20-$0.9964)×1.03120/365=$19.19
Example2
After 70 days, the value of the stock in the
previous example is $40.00. Calculate the value of
the equity forward contract on the stock to the long
position, assuming the risk-free rate is still 3% and
the yield curve is flat.
0.5
PVD= =$0.4998;
1.035/365
19.19
V(long position)=($40-$0.4998)- =$20.39
1.0350/365
Equity Forward and Futures

 Equity Index Forward Contracts With
Continuous Dividends
 Rfc= ln(1+Rf)
 FP (on an equity index)=S0×e(Rfc-δc）×T
 Where:
 Rfc=continuously compounded risk-free rate
 δc=continuously compounded dividend yield
 Vlong=St / [eδc×(T-t)]-FP / [eRfc×(T-t)]
Example
The value of the S&P 500 index is 1,230. The
continuously compounded risk-free rate is 5% and
the continuous dividend yield is 2%. Calculate the
no-arbitrage price of a 150-day forward contract
on the index.
Answer:
FP =1,230x e(0.05-0.02)X(150/365) =1,245
Example
After 90 days, the value of the index in the
previous example is 1,030. Calculate the value to
the long position of the forward contract on the
index, assuming the continuously compounded
risk-free rate is 4.5% and the continuous dividend

yield is 2.0%.
Answer:
1030
V90(of the long position) =( . / )-
1245
( . / )=-209.2
 Currency Swap
 Equity Swap
Interest Rate Forward and Futures (FRA)

 FRA定义: 标的资产是利率的远期合约。
 The long position: 借入钱的人。
 The short position: 借出钱的人。
 FRA报价: 1×4FRA?; 3×6FRA?

Interest Rate Forward and Futures (FRA)
 The no-arbitrage forward rate(FR).
L(m)/m FR/n
L(m+n)/m+n
(1+Lm m/360)(1+FR n/360)=(1+Lm+n (m+n)/360)
Example
Calculate the price of a 1×4FRA.The current 30-
day LIBOR is 2% and 120-day LIBOR is 4%.
The actual 30-day rate (Period):
R(30)=0.02 30/360=0.0017
The actual 120-day rate (Period):

R(120)=0.04 120/360=0.013
The actual 90-day forward rate in 30 days from
now (period):
[ 1+R(120) ]/[ 1+R(30) ]-1=1.013/1.0017-1=0.0113.
Example
The annualized forward rate, which is the price of
the FRA, is:
RFRA=0.0113×360/90=0.0452=4.52%.

 Currency Swap
 Equity Swap
Fixed-income Forward and Futures
 Coupon bonds: 与分红的股票远期类似，只是现

金流是coupon。
 Price: FP=(S0-PVC0)×(1+Rf)T
 Value: Vlong=St-PVCt-FP/(1+Rf)(T-t)
Example
Calculate the price of a 240-day forward contract

on a 6% U.S. Treasury bond with a spot price of $
1,020 (including accrued interest) that has just
paid a coupon and will make another coupon

payment in 180 days. The annual risk-free rate is
5%. Remember that U.S. Treasury bonds make
semiannual coupon payments:
Answer
1000×0.06
C= =30
2
30
PVC= =29.29
1.05180/365
30
FP=(1020- ) ×(1+5%)(240/365) =1023
1.05180/365

 Currency Swap
 Equity Swap
Currency Forward and Futures
 Price: covered Interest Rate Parity (IRP):
 FP=S0×(1+RD)T/(1+RF)T
 RD: risk-free rate of domestic currency
 RF: risk-free rate of foreign currency
 DC/FC
Currency Forward and Futures

St FP
 Value: Vlong = −
(1+RF)T−t (1+RD )T−t
 If continuous interest rates：

C C
 FP=S0 ×e(RD −RF )×T
S FP
 Vlong =( c t )−( c )
eRF ×(T−t) eRD ×(T−t)
Example
The U.S. risk-free rate is 5 percent, the Swiss risk-
free rate is 6 percent, and the spot exchange rate
between the United States and Switzerland is
$0.57. Calculate the continuously compounded
U.S. and Swiss risk-free rates. Calculate the price
at which you could enter into a forward contract
that expires in 100 days. Calculate the value of the
forward position 30 days into the contract. Assume
that the spot rate is $0.60.
Answer
CHF: rfc=ln(1.06)=0.0583
USD: rc=ln(1.05)=0.0488
S0=$0.57 T=100/365
FP=($0.57 e−0.0583(100/365))(e0.0488(100/365))
=$0.5686
Answer
Vt=(0.60×e−0.0583(70/365))−($0.5686×e−0.0488(70/365))
=$0.03
The value of the contract is $0.03 per Swiss franc.

 Currency Swap
 Equity Swap
Interest Rate Swap
 A plain vanilla swap: 一方支付固定利率，一方

支付浮动利率。
 Pricing a plain vanilla swap: 计算固定利率
(swap rate)。
Interest Rate Swap
 1=C×B1+C×B2+C×B3+……+Bn×(C+1)
1−B
 C=
B1+B2+⋯+B
 C 是一个periodic rate, 必须年化，获得annual

swap rate.
Example
Calculate the swap rate of a 1-year quarterly-pay

plain-vanilla swap. The LIBOR spot rates are:
R(90-day)=1.5%; R(180-day)=2%;
R(270-day)=3.5%; R(360-day)=5%.
Answer
Step1: Calculate the discount factors
B1=1/(1+1.5%×90/360)=0.9963;
B2=1/(1+2%×180/360)=0.9901;
B3=1/(1+3.5%×270/360)=0.9744;
B4=1/(1+5%×360/360)=0.9524.
Answer
Step2: C=(1-B4)/(B1+B2+B3+B4)
=(1-0.9524)/(0.9963+0.9901+0.9744+0.9524)= 1.22%
Step3:
Swap rate=1.22%×360/90=4.88%.
Interest Rate Swap
 The market value of a swap to the

pay-fixed side is
 Vswap(pay-fixed)=MVflt-MVfix
 Vswap(pay-floating)=MVfix-MVflt
Example
Calculate the value of the plain vanilla swap to the

pay-fixed side in the previous example after 30
days. The swap rate is 4.88% and the notional
principal is $1million. Assume after 30 days the
LIBOR spot rates are:
R(60day)=2.5%; R(150-day)=3%;
R(240-day)=3.5%; R(330-day)=4%.
Answer
Step1:
B1=1/(1+2.5%×60/360)=0.9959;
B2=1/(1+3%×150/360)=0.9877;
B3=1/(1+3.5%×240/360)=0.9772;
B4=1/(1+4%×330/360)=0.9646;
Step2:
PV(fixed)=1.22%×(0.9959+0.9877+0.9772+0.964
6)+1×0.9646=1.01249
Answer
Step 3: The first payment at initiation:
1.5%×90/360=0.00375.
PV(floating)=(1+0.00375)×0.9959=0.999635
Answer
Step 4: Calculate the swap value to the pay-fixed side:
V=[ PV(floating)-PV(fixed) ]×notional principal

=(0.999635-1.01249)×$1 million=$-12,855.375
 Currency Swap
 Equity Swap
Currency Swap
 假设dollar 和Euro 之间进行Currency Swap:
 Swap1: pay dollar fixed and receive Euro fixed.
 Swap2: pay dollar fixed and receive Euro floating.
 Swap3: pay dollar floating and receive Euro fixed.

 Swap4: pay dollar floating and receive Euro floating.
 In the swap4 (floating for floating)，没有pricing问题。

Example
Consider a two-year currency swap with semiannual
payments. The domestic currency is the U.S. dollar, and the
foreign currency is the U.K. pound. The current exchange
rate is $1.51 per pound.
L0$(180)=0.0545 The L0₤(180)=0.0483
L0$(360)=0.0625 comparable L0₤(360)=0.0526

L0$(540)=0.0635 set of ₤ L0₤(540)=0.0539
L0$(720)=0.0675 rates are L0₤(720)=0.0561
A. Calculate the annualized fixed rates for dollars and pounds:
Example
Now move forward 120 days. The new exchange
rate is $1.32 per pound, and the new U.S. term
structure is:
L120$(60)=0.0623 L120₤(60)=0.0527
The
L120$(240)=0.0639 ₤
comparable L120 (240)=0.0552
L120$(420)=0.0643 set of ₤ L120₤(420)=0.0567
rates are
L120$(600)=0.0687 L120₤(600)=0.0585
Example
B. Assume that the notional principal is $1 or the

corresponding amount in British pounds. Calculate
the market values of the following swaps:
Pay ₤ fixed and receive $ fixed;
Pay ₤ floating and receive $ fixed;
Pay ₤ floating and receive $ floating
Answer
A: First calculate the fixed payment in dollars and
pounds. The dollar present value factors for 180,
360, 540, and 720 days are as follows:
Answer
The semiannual and annualized fixed payment of

per $1 of notional principal is
1−0.8811
=0.0321 or
0.9735+0.9412+0.9130+0.8811
0.0641 for annualized.
Similarly the semiannual and annualized fixed

payment of per £1 of notional principal is: 0.0269
or 0.0538 for annualized.
Answer
B:The new dollar and pound factors for 60, 240, 420,
and 600 days are as follows:
Answer
The present value of the remaining fixed payments
plus the $1 notional principal is 0.0321(0.9897 +
0.9591 + 0.9302 + 0.8973) + 1(0.8973) = 1.0185.
The present value of the floating payments plus
hypothetical $1 notional principal discounted back
120 days is 1.02725(0.9897)= 1.0167
Answer
The present value of the remaining fixed payments
plus the £1 notional principal is
0.0269(0.9913+0.9645+0.9379+0.9112)+1(0.9112)
=1.0136. Convert this amount to the equivalent of
$1 notional principal and convert to dollars at the

current exchange rate:
1/1.51×1.32×1.0136 = $0.8861.
Answer
The present value of the floating payments

plus hypothetical £1 notional principal:
1.02415(0.9913)=1.015
Answer
Convert this amount to the equivalent of $1 notional principal;

and convert to dollars at the current exchange rate
1/1.51×1.32×1.015=$0.8873. The market values based on
notional principal of $1 are as follows:
Pay £ fixed and receive $ fixed=$0.0464=1.0185-0.8861

Pay £ floating and receive $ fixed=$0.0424=1.0185-0.8873
Pay £ floating and receive $ floating=$0.0461=1.0167-0.8873
Pay £ fixed and receive $ floating=$0.0501=1.0167-0.8861
 Currency Swap
 Equity Swap
Equity Swap
 三种equity swaps:
 Pay fixed rate and receive equity return;
 Pay floating rate and receive equity return;

 Pay one equity return and receive another

equity return.
1−B n
 C=
B1+B2+…+B n
Example
An equity swap has the annual swap rate of
3.82% and the notional principal of $1million.The
underlying is an index, currently trading at 1,000.
Assume after 30 days the index becomes1,200
and the LIBOR spot rates are:
R(60-day)=2.5%; R(150-day)=3%;
R(240day)=3.5%; R(330day)=4%.
Calculate the value of the equity swap to the
fixed-rate payer.
Answer
Step1: Calculate the new discount factors 30days later:
B1=1/(1+2.5%×60/360)=0.9958;
B2=1/(1+3%×150/360)=0.9877;
B3=1/(1+3.5%×240/360)=0.9772;
B4=1/(1+4%×330/360)=0.9646
Step2:
PV(fixed)=0.955%×(0.9958+0.9877+0.9772+0.9646)+
1×0.9646=1.002087
Answer
Step3:
PV(index)=1×1200/1000=1.2
Step4:
V=[ PV(index)-PV(fixed) ]×notional principal
=(1.2-1.002087)×$1million=$197,913
CONTENTS
目录
Pricing and Valuation of Forward
Commitments

 Stock Binomial Model
 Interest rate Binomial Model
 Black-Scholes-Merton Model (BSM)
 Black Model
 Option Greeks and Implied Volatility
Stock Binomial Model
 Stock Binomial Model (one-period)
 Stock Binomial Model (two-period)

 Hedging Ratio
Stock Binomial Model (one-period)
S1+=S0u
S0
S1-=S0d
Stock Binomial Model (one-period)
 Risk-neutral probability of an up move is πu;

Risk-neutral probability of an down move is
1+R f−d
πd=1-πu, πu= .
u−d
 C1+=Max (0, S1+-X); C1−=Max (0, S1−-X)
1
 C0= πuC1++πdC1− ×
1+R f T
 Hedging Ratio
Stock Binomial Model (two-period)
 Call option S++=S0×UU

c++ =MAX (0, S++-X)
S+=S0×U
c+
S+-(=S-+ )=S0×UD
S0
c=?
c+- = MAX (0, S+--X)
S-=S0×D
c-
S--=S0×DD
c--=MAX (0,S---X)
美式看涨期权怎么处理？
 Put option (X=12, Rf=2%，U=1.2，D=0.8)
S0U=10×1.2=12 p+ ’=0 S0UU=10×1.2×1.2=14.4
●
p++=0
●
S0UD=12×0.8=9.6
S0=10 ● ●
p+- =12-9.6=2.4
S0D=10×0.8=8. ● S0DD=10×0.8×0.8=6.4
p-’ =12-8=4 p-- =12-6.4=5.6
 Rf=2%，U=1.2，D=0.8
1+R f−d 1+2%−0.8

 πu= = =0.55
u−d 1.2−0.8
 p+= 0.55×0+0.45×2.4 /(1+2%)=1.06
 p- = (0.55×2.4+0.45×5.6)/(1+2%)=3.76
 p= (0.55×1.06+0.45×3.76)/(1+2%)=2.23
 Hedging Ratio
Hedging Ratio
 Hedging ratio=(C+-C-)/(S+-S-)
 如果期权overpriced, 卖出期权，买入Hedging
ratio份股票；
 如果期权 underpriced, 买入期权，卖出
Hedging ratio份股票。
 Black Model
Interest rate Binomial Model

 Interest rate caplet: 类似于一个call option on
interest rates.
 Expiration value of caplet=max [ 0, (one year
rate-cap rate) ]× notional principal

 Interest rate floorlet: 类似于一个put option on
interest rates.
 Expiration value of floorlet=max [ 0, (floor rate
- one year rate) ]×notional principal
Example
Calculate the value today of a 2-year interest rate

call option with the exercise rate of 5%. The notional
principal is 1 million. The interest rate tree for the
first two years are illustrated below.
Example
Int. Rate=8.58%
Int. Rate=6.40%
Int. Rate=5.90%
Int. Rate=5.13%
Int. Rate=4.29%
Int. Rate=3.28%
today 1-year 2-year

Answer
Step 1: Calculate the bond price and call option
intrinsic value at year 2:
C++ = Max (0, 8.58%−5%) × $1,000,000= $35,800
C+− = Max (0, 5.90%−5%) × $1,000,000 = $9,000
C−− = Max (0, 3.28%−5%) × $1,000,000 = 0
Answer
Step 2: Calculate the call option value at year 1:
C+ = (35,800 × 0.5 + 9,000 × 0.5)/1.0640 = $21,053
C− = (9,000 × 0.5 + 0 × 0.5)/1.0429 = $4,315
Step 3: Calculate the call option value today:

C = (21,053 × 0.5 + 4,315 × 0.5)/1.0513 = $12,065
 Black Model
Black-Scholes-Merton Model (BSM)
 Black-Scholes-Merton model (BSM

model)：连续的二叉树模型。
 The underlying assumptions of the BSM model are:
 标的资产价格服从lognormal distribution.
 The (continuous) risk-free rate 已知且恒定.
 The volatility of the underlying asset 已知且恒定.
 The markets are frictionless.
 标的资产没有任何现金流。
 只适用于European options.

 The BSM formulas: c
−Rf T
 C0=[ S0 N(d
c 1
) ]-[ X× e ×N(d2) ] ； P0=C0-
−Rf T
S0+(X×e )
ln S0 +[ Rc + 0.5 σ2 ]×T
X f
 d1= ；d2=d1-(σ× T)
σ T
 Where: S0=underlying asset price; X=strike price;
T=time to maturity ; Rfc=continuously
compounded risk-free rate
 σ=volatility of the underlying asset
 N()=cumulative normal probability
 Black Model
Black Model
 Black Model:
 Pricing European Options on Futures:
c=e-rT[ F0(T)×N(d1)-X×N(d2) ]
p=e-rT[ X×N(-d2)-F0(T)×N(-d1) ]
ln [F0(T)/X+ σ2/2 T
d1= and
σ T
d2=d1-σ T
Black Model
 Pricing Interest Rate Options:

C=NP(AP) e-r(tj-1+tm) [ FRA(0,tj-1,tm)×N(d1)-R×N(d2) ]
P=NP(AP) e-r(tj-1+tm) [ R×N(-d2)-FRA(0,tj-1,tm)×N(-d1) ]
AP denotes the accrual period in years
ln FRA 0,tj−1,tm /RX + σ2/2 t j−1

d1=
σ t j−1
d2=d1-σ t j−1
Black Model
 Pricing Swaption:
Payer swaption valuation model:
PAYSWN=NP(AP)PVA[ RFIXN(d1)-RXN(d2) ]
Receiver swaption valuation model:

RECSWN=NP(AP)PVA[ RXN(-d2)-RFIXN(-d1) ]
ln RFIX/RX + σ2/2 T
d1= , d2=d1-σ T
σ
 Black Model
Option Greeks and Implied Volatility

Sensitivity Factor Calls Put
Underlying price (delta) Positively related Negatively related
Volatility (Vega) Positively related Positively related
Risk-free rate (Rho) Positively related Negatively related

Time to maturity(Theta) Positively related Positively related*
Strike price (X) Negatively related Positively related

Payments on
Negatively related Positively related
the underlying
Carrying cost Positively related Negatively related
[ Positively related* ]:欧式看跌期权除外。

 Delta=Change in option price/Change in
underlying price.
 Delta call=(C1-C0)/(S1-S0)=∆C/∆S
 Delta put=(P1-P0)/(S1-S0)=∆P/∆S=delta call-1
 The call option’s delta ≈N(d1) .
 The put option’s delta ≈ N(d1)-1.

 The call delta increases from 0 to1 as stock
price increases.
 Deep out-of-the-money, the call delta = zero.
 Deep in-the-money, the call delta = one.

 The put delta increases from −1 to 0 as stock
price increases.
 Deep in-the-money, the put delta =−1.
 Deep out-of-the-money, the put delta = zero.
 When t T, in-the-money call’s delta 接近于1,
out-of-the-money call’s delta 接近于0.
 Delta-neutral portfolio: 无论标的资产的价格如何

变化，组合价值不变。
 The delta-neutral hedging 是一个dynamic

hedging（delta一直在变）.
 标的资产价格变化导致delta变化，即使标的资产
价格不变，随着时间的流逝，delta依然会变化。
 Number of options needed to delta hedge
number of shares hedged

=
delta of call option
=number of shares hedged×hedge ratio

 Gamma=(delta1-delta0)/(S1-S0)=∆delta /∆S
 Call and put options on the same stock with the
same T and X 拥有相同的gammas.
 A long position in calls or puts, positive gamma.

 Gamma 在at-the-money时最大。
 Deep in-or out-of-the-money, gamma接近于0.
 Historical volatility and implied volatility
 Historical volatility: 用历史数据计算出来的波

∑N Rc −Rc 2
动率。 σ = i=1 i i ;σ= σ2
2
N−1
 Implied volatility: 已知S0, X, Rf, and T, 期权的
market price ，代入到 BSM模型后反求出的
volatility.
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CFA Level II

Valuation of Contingent Claims

 Pricing: 确定远期价格 （t=0）.

 The no-arbitrage principle(Law of one price): 不

 Cash-and-carry Arbitrage: 正向套利。

At initiation At settlement date

 Reverse-cash-and-carry Arbitrage: 反向套利。

At initiation At settlement date

 General pricing formula:

 Fixed-income Forward and Futures

 Forward contracts on a dividend-paying stock

days. The annual risk-free rate is 3%, and the

Equity Forward and Futures

risk-free rate is 4.5% and the continuous dividend

Interest Rate Forward and Futures (FRA)

 FRA报价: 1×4FRA?; 3×6FRA?

 The no-arbitrage forward rate(FR).

The actual 120-day rate (Period):

 Fixed-income Forward and Futures

 Coupon bonds: 与分红的股票远期类似，只是现

Calculate the price of a 240-day forward contract

paid a coupon and will make another coupon

Pricing and Valuation of Forward Commitments

 Fixed-income Forward and Futures

 Price: covered Interest Rate Parity (IRP):

 RF: risk-free rate of foreign currency

Currency Forward and Futures

 If continuous interest rates：

 Fixed-income Forward and Futures

 A plain vanilla swap: 一方支付固定利率，一方

 Pricing a plain vanilla swap: 计 算 固 定 利 率

Interest Rate Swap

 C 是一个periodic rate, 必须年化，获得annual

Calculate the swap rate of a 1-year quarterly-pay

Interest Rate Swap

 The market value of a swap to the

Calculate the value of the plain vanilla swap to the

Step 4: Calculate the swap value to the pay-fixed side:

V=[ PV(floating)-PV(fixed) ]×notional principal

 Swap3: pay dollar floating and receive Euro fixed.

 In the swap4 (floating for floating)，没有pricing问题。

L0$(360)=0.0625 comparable L0₤(360)=0.0526

L0$(720)=0.0675 rates are L0₤(720)=0.0561

A. Calculate the annualized fixed rates for dollars and pounds:

B. Assume that the notional principal is $1 or the

The semiannual and annualized fixed payment of

Similarly the semiannual and annualized fixed

$1 notional principal and convert to dollars at the

The present value of the floating payments

Convert this amount to the equivalent of $1 notional principal;

Pay £ fixed and receive $ fixed=$0.0464=1.0185-0.8861

 Pay fixed rate and receive equity return;

 Pay floating rate and receive equity return;

 Pay one equity return and receive another

V=[ PV(index)-PV(fixed) ]×notional principal

Valuation of Contingent Claims

 Stock Binomial Model

 Interest rate Binomial Model

 Option Greeks and Implied Volatility

Stock Binomial Model

 Stock Binomial Model (one-period)

 Stock Binomial Model (two-period)

Stock Binomial Model (one-period)

 Pricing: 确定远期价格（t=0）.

 Pricing a plain vanilla swap: 计算固定利率