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Chapter 17
1 C. Hull 2013
Fundamentals of Futures and Options Markets, 8th Ed, Ch 17, Copyright John
Fundamentals of Futures and Options Markets, 8th Ed, Ch 17, Copyright John2C. Hull
2013
position
Take no action
Covered
position
What
Fundamentals of Futures and Options Markets, 8th Ed, Ch 17, Copyright John3C. Hull
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Stop-Loss Strategy
This
involves:
Fundamentals of Futures and Options Markets, 8th Ed, Ch 17, Copyright John4C. Hull
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Slope =
B
A
Stock price
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Hedge
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Delta Hedging
This involves maintaining a delta neutral
portfolio
The delta of a European call on a nondividend-paying stock is N (d 1)
Fundamentals of Futures and Options Markets, 8th Ed, Ch 17, Copyright John8C. Hull
2013
Fundamentals of Futures and Options Markets, 8th Ed, Ch 17, Copyright John9C. Hull
2013
Week
Stock
price
Delta
Shares
purchased
Cost
($000)
Cumulative
Cost ($000)
Interest
49.00
0.522
52,200
2,557.8
2,557.8
2.5
48.12
0.458
(6,400)
(308.0)
2,252.3
2.2
47.37
0.400
(5,800)
(274.7)
1,979.8
1.9
.......
.......
.......
.......
.......
.......
.......
19
55.87
1.000
1,000
55.9
5,258.2
5.1
20
57.25
1.000
5263.3
Fundamentals of Futures and Options Markets, 8th Ed, Ch 17, Copyright John10
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Stock
price
Delta
Shares
purchased
Cost
($000)
Cumulative
Cost ($000)
Interest
49.00
0.522
52,200
2,557.8
2,557.8
2.5
49.75
0.568
4,600
228.9
2,789.2
2.7
52.00
0.705
13,700
712.4
3,504.3
3.4
.......
.......
.......
.......
.......
.......
.......
19
46.63
0.007
(17,600)
(820.7)
290.0
0.3
20
48.12
0.000
(700)
(33.7)
256.6
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Theta
Theta
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Gamma
Gamma
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Fundamentals of Futures and Options Markets, 8th Ed, Ch 17, Copyright John15
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Call
price
C
C
C
Stock price
S
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Interpretation of Gamma
S
S
Positive Gamma
Negative Gamma
Fundamentals of Futures and Options Markets, 8th Ed, Ch 17, Copyright John17
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1 2 2
rS 0 S 0 r
2
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Vega
() is the rate of change of the
value of a derivatives portfolio with
respect to volatility
Vega
Fundamentals of Futures and Options Markets, 8th Ed, Ch 17, Copyright John19
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Example
Delta
Gamma
Vega
Portfolio
5000
8000
Option 1
0.6
0.5
2.0
Option 2
0.5
0.8
1.2
Example continued
Delta
Gamma
Vega
Portfolio
5000
8000
Option 1
0.6
0.5
2.0
Option 2
0.5
0.8
1.2
What position in option 1, option 2, and the asset will make the
portfolio delta, gamma, and vega neutral?
We solve
5000+0.5w1 +0.8w2 =0
8000+2.0w1 +1.2w2 =0
to get w1 = 400 and w2 = 6000. We require long positions of 400 and
6000 in option 1 and option 2. A short position of 3240 in the asset is
then required to make the portfolio delta neutral
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Rho
Rho
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Hedging in Practice
Traders
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Scenario Analysis
A scenario analysis involves testing the
effect on the value of a portfolio of
different assumptions concerning asset
prices and their volatilities
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Greek Letters for European Options on an Asset that Provides a Yield at Rate q (Table 17.6, page 386)
Greek Letter
Call Option
Put Option
Delta
e qT N (d1 )
e qT N (d1 ) 1
Gamma
N (d1 )e qT
S 0 T
N (d1 )e qT
S 0 T
Theta
Vega
Rho
S 0 N (d1 )e qT 2 T
qS 0 N (d1 )e qT rKe rT N (d 2 )
S 0 T N (d1 )e qT
KTe rT N ( d 2 )
S 0 N ( d1 )e qT 2 T
qS 0 N ( d1 )e qT rKe rT N ( d 2 )
S 0 T N (d1 )e qT
KTe rT N (d 2 )
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Portfolio Insurance
In
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Portfolio Insurance
continued
As
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Portfolio Insurance
continued
The strategy did not work well on October
19, 1987...
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