Derivative financial instruments in the examples
Derivative financial instruments - the so-called securities of the second order. In the case of derivatives of the stock market participant has to do not with the fictitious capital (stocks, bonds), and the document granting the right to conduct transactions on purchase and sale of fictitious capital. Derivative financial instruments - a kind of contracts that give the right to conduct transactions with the classic securities (securities of the first order): options, futures, warrants, etc. Their main purpose - the holder of the document to insure against possible losses in the stock market game and to ensure its protection in the context of inflation and economic instability.
Options and futures have a solid primary and secondary market and are often a must-have transactions with fictitious capital.
1. Options
An option gives the holder the right to buy or sell a certain number of shares at the rate fixed in the contract (the strike price) on a specified date in the future (European option) or for a specified period (American option) a person drawn the option, but not the obligation to fulfill this transaction.
If, at the expiration of the European call option or over the term of the American call option purchased rate (selling) shares will be more profitable, the holder may refuse to exercise the option and buy (sell) shares on the more favorable rate.
Option seller is obliged under the terms and conditions of a contract to make a deal with the owner of the option even in unfavorable position for itself in the stock market. For this he receives from the option buyer the appropriate fee (premium).
Distinguish listed (traded on an exchange options) and unlisted (sold over the counter in the back) options.
2. Call-option
Call-option ("call option") - is an option to purchase a certain number of shares for the person drawn the option. In its implementation rate of purchase of shares ROE = R0 + R, where R0 - exercise price, P - premium paid. Conditions of exercise of the option R0> Rm, where Rm - prevailing market price of the shares.
Example 1. Acquired an option to purchase within 90 days of shares at R0 = $ 510 per share. Premium paid is equal to P = $ 5 per share.
If after 90 days the stock price will be Rm = 530 $, then R0
3. Put-option
Put-option ("put option") - is an option to sell a specified number of shares of the face, write out the option. In its implementation selling rate ROE = R0 - R, where R0 - exercise price, P - premium paid. Conditions of exercise of the option R0
If after 90 days the stock price will be Rm = 550 $, then R0> Rm (570> 550). Therefore, the option is implemented at the rate of sale of shares of Roe = R0 - R = 570 - 565 = $ 5 per share. Profit option buyer is 550 (buying shares at market exchange rate) + 565 (exercise of the option) = $ 15 per share.
If after 90 days the stock price will be Rm = 580 $, it will be satisfied out of the exercise of the option R0
Shelving - an operation in which a player sells or acquires both call and put options on the same stock with the same strike price and expiration of contracts.
Rack is in the case where some players are waiting for significant fluctuations of certain shares, and others expect certain of its stabilization. Distinguish seller rack (rack up) and rack buyer (rack down).
Seller rack counts on minor fluctuations in the share price one way or another. So he sells both call and put options on the same stock. Seller believes that the fluctuations are negligible and options presented to the execution will not.
EXAMPLE 3. The player is selling at the same time on the same call-option shares at the price of $ 350 per share at a premium of $ 5 per share and a put-call option at the price of $ 350 per share at a premium of $ 7 per share. The term of the options after 60 days. The total revenue from the sale of stock options equal to 5 + 7 = $ 12 per share.
If after 60 days the stock price will be $ 340, the put-call option buyer will want to fulfill it. Seller options buys her shares at the price of $ 350 per share and sell on the stock market at the current rate of $ 340 Profit Seller options is equal to 12 - 350 + 340 = $ 2 per share.
If after 60 days the stock price will be $ 380, then the call-option buyer wants to fulfill it. Seller options to sell its shares at the price of $ 350 per share, having bought them on the stock market at the current rate of $ 380 Profit Seller options is equal to 12 - 380 + 350 = -18 $ per share, ie the seller of options in this case will receive a loss.
The greater the rate of change in one direction or another, so it is loss-making for the seller of options.
Buyer rack predicted a significant change in the stock price a particular firm, but questioned the direction of the change (fall or rise). Therefore, he expects to make a profit as a result of the execution of one of the two options.
Example 4. The player takes on the same time on the same call-option shares at the price of $ 350 per share at a premium of $ 5 per share and a put-call option at the price of $ 350 per share at a premium of $ 7 per share. The term of the options after 90 days. The buyer has paid the rack 5 + 7 = $ 12 per share.
If after 90 days the stock price will be $ 354, the buyer of options perform call-option by paying $ 350 per share, and sell those shares on the stock market at the current rate of $ 354 profit for the buyer options is equal to -12 - 350 + 354 = 8 $ per share, ie the buyer of options in this case will receive a loss.
If after 90 days the stock price will be $ 326, the buyer of options to purchase shares of the stock market at the current rate of $ 326 and will perform on the put-option price of $ 350 per share. Profit buyer options is equal to -12 - 326 + 350 = $ 12 per share.
The greater the rate of change in either direction, the more profitable it is for the buyer of options.
5. Strangle
Strangle - is the purchase or sale of call or put options on the same stock with the same expiration term contracts, but with a different strike price.
Example 5. The exercise price of call-option $ 350 per share, a premium $ 3 per share. The exercise price of put-call option on the same stock $ 320 per share, a premium $ 7 per share. The term of the options after 60 days.
If after 60 days the stock price will be $ 340, the buyer of options abandon their execution. His loss is equal to the size of the premium paid, ie 3 + 7 = $ 10 per share.
If after 60 days the stock price will be $ 370, the buyer takes a call-option option. His profit is equal to - 350 (execution of call-option) + 370 (sale of shares on the stock market) - 10 (premium paid) = $ 10 per share.
The simultaneous purchase and sale of two different options on the same stock is a tool of insurance against financial losses and a source of profit from the transactions.
6. Spread
Spread - this option transaction in which the player revenue generated from the difference between the premium received from the sold option and the premium paid for a purchased option.
By types are distinguished spread "bull" and spread "Bear", and by type - purchase and sale of call-options and the purchase and sale of put-options. The player simultaneously buys and sells options on the same stock a particular firm, but with different price or the time of the contract.
Example 6. The player is "bull" expects to increase the stock price. He gets call-option with a strike price of $ 500 per share and a premium of $ 5 per share. At the same time a player is selling a call-option with a strike price of $ 550 per share and a premium of $ 7 per share. The term of the options after 90 days.
The initial contribution to the performance of the spread is 7 - 5 = $ 2 per share.
If after 90 days the stock price will be $ 560, then both options will be fulfilled. The player will purchase shares at a price of $ 500 per share and will be forced to sell them at the price of $ 550 per share. Profit Team is 550 - 500 + 2 = $ 52 per share.
If after 90 days the stock price will be $ 540, then the option with a strike price of $ 550 per share will not be realized. The player sells an option with a strike price of $ 500 per share. Profit is equal to -500 Player (version option) + 540 (sale of shares on the stock market) + 2 = $ 42 per share.
If after 90 days the stock price will be $ 490, the options will not be executed. Profit player is $ 2 per share.
Similar to understand other possible spreads.
7. Warrants
Warrant a share (or warrant) - this call-option issued by a company for its shares. Warrants are usually emit a longer period of time (eg five years or more) than the typical call-options. Also issued perpetual warrants. Usually warrants may be executed before the expiration date, as American options, but for some of them to the possible repayment must pass a certain initial period.
The exercise price of the warrant may be fixed or changed during the term of the warrant, usually upward. The exercise price of the warrant at the time of issue, as a rule, is set much higher than the market price of the underlying asset.
At the time of issue one warrant entitles the holder usually buy one share on the relevant exercise price. Most warrants are protected against stock splits and stock dividends, that is, when stock split or stock dividend warrant will allow the investor to buy more or less than one share at an exercise price of changed.
One of the differences warrant from the call-option - this is a limited number of warrants. Always available, only a limited number of warrants, which are declining as of warrants. A call-option occurs when two people wish to create it. Execution of call-option affects the firm no more than deal with its shares on the secondary market. Execution of the warrant has a certain effect on the position of the company, it receives more funds, the number of issued shares and reducing the number of warrants.
Trading warrants conducted on the major stock exchanges and OTC markets.
8. Rights
Law - is call-options issued by the entity on its shares. They give shareholders pre-emptive rights to subscribe for new ordinary shares in issue prior to their public offering. Each share in circulation, gets one right. One share is purchased for a certain number of rights + an amount of money equal to the subscription price. The subscription price for the new shares is usually set below the market share price at the time of issue.
Rights usually have a short period (two to ten weeks from the date of issue) and are freely tradable until their execution. Up until a certain date old shares are sold together with the rights, that is, the buyer will receive shares and rights when they are released. After this date the shares are sold without a license at a lower price. Sometimes the law on popular issues traded on the stock exchange, in other cases - in the OTC market.
Rights are not protected against stock splits and stock dividends.
9. Futures
Futures contract (short futures) - it is a contract for the purchase of a particular consignment of goods at a price acceptable to both parties at the time of the transaction, and the goods are delivered to the seller after quite a long time. Futures - this is a security of the second order, which is the object of transactions in the stock market.
Persons who buy and sell futures contracts can be defined as hedgers or speculators. Hedgers participate in futures transactions primarily to reduce the risk, as these individuals or produce, or use the asset as part of their business. Speculators enter into futures contracts for a profit in a short time.
The main commodities on which futures contracts are grains, precious and base metals, oil and oil products.
From the 1970s on the major stock exchanges were introduced financial futures contracts for foreign currency, securities and fixed income market indices. By the volume of trade they now have a much more important than the underlying assets and traditional futures contracts.
Futures on the market of financial assets - a contract between two investors, according to which one of them is committed at the end of the contract to another investor to sell (or buy it) a certain number of securities at a predetermined price.
The main difference from the futures option is that in a futures contract is not implemented right and unconditional obligation of the person that signed the agreement in any case to perform the contract within the specified period in it. Therefore, the financial risk associated with futures, much higher than the real option.
The purpose of futures trading is insurance (hedging) from financial losses due to unfavorable conditions in the market, as well as an increase in profits as a result of speculative trading on the exchange. Futures trading can reduce the risk of financial loss in the event of sharp price fluctuations, reduce the size of the reserve fund required to cover the losses, accelerate return to the Cash invested capital, reduce distribution costs.
The object of futures contracts on the stock market are securities without coverage - securities that do not actually belong to the seller, and they are borrowed from a third party on bail of 40-60%.
Example 7. Player enters into a futures contract on the short sale of shares at a price of $ 500 per share.
If at the date of the contract's stock price will drop to $ 300, the player buys the shares and a profit 500 - 300 = $ 200 per share.
If at the date of the contract's stock price will rise to $ 800, then the loss of the player is 800 - 500 = $ 300 per share.
Pazumeetsya, the reality of transactions in financial instruments more complex and varied than described. They have a variety of features and nuances that can be attained only by practice.
