Financial Derivatives

This course covers one of the most exciting and important areas in finance: derivatives. The Financial Derivatives course is interesting for (i) future entrepreneurs, (ii) entrepreneurs who work at small or middle-sized already established and well-functioning firms, or (iii) persons who work at small, middle-sized, or large firms.

There are several motivations for the practical use of financial derivatives. For example: (i) Financial derivatives allow investors to trade on future price movements with minimal upfront investments thereby making financial markets more liquid and efficient. Traders in the equity index and FX futures markets can often lever up their positions more than 25 respectively 50 times (varies with the volatility of the underlying). Investor in option markets can obtain similar leverage ratios even without ever facing a margin call. (ii) Derivatives are also often used to predict future prices or events. For instance, fed fund futures can be used to predict the future monetary policy of the fed, weather derivatives traded on the CME can be used to predict future changes in temperature, and currency options can be used to infer the likelihood of a successful exchange rate peg.

The main objective of this course is to help students gain the intuition and to provide the necessary skills for using derivative securities for investment and prediction purposes. We discuss a wide range of applications and real-life cases, including the use of derivatives in asset management, the valuation of corporate securities such as stocks and corporate bonds, interest rate derivatives, credit derivatives, as well as crude oil derivatives and currency derivatives. In addition to theoretical discussions, we also emphasize practical considerations of implementing strategies using derivatives as tools, especially when no-arbitrage conditions do not hold. In order to provide a useful treatment of these topics in a world that is changing rapidly, it is necessary to stress fundamentals and to explore topics at a technical level.

We cover markets in standard financial derivatives – e.g., forwards, futures, swaps, and options – with intent to establish the theoretical basis of prices as well as the practical use – and pitfalls – of these products. We review the meaning of each financial derivative contract, the rights and obligations of both sides of the contract. We see case studies on the valuation of the financial derivatives contracts and their use in derivative exchanges or in over-the-counter markets. The focus is practical use, and the presentation of the use of all financial derivatives is through case studies.