Managing Currency Risk Using Foreign Exchange Options

by Hicks

• ISBN13: 9781855734913
• ISBN10: 1855734915
• eBook ISBN(s): 9781855734913
• Additional ISBN(s): 9781845692117
• Format: Hardcover
• Copyright: 3/29/2000
• Publisher: Elsevier Science

Summary

Written for the corporate treasurer or finance director, this book gives a clear perspective of how foreign exchange (FX) options are derived and a clear understanding of the benefits, cost, risks, and rewards associated with FX options strategies. The early chapters provide a gentle introduction, and the book gradually builds in complexity, covering hedging in three stages. The author illustrates his point with examples drawn from the corporate world.

Table of Contents

Preface	xi
Acknowledgements	xv
Short history of foreign exchange options	1	(5)
Development of interbank (over the counter) market	2	(1)
Simple option structures	3	(1)
The arrival of exotics	4	(1)
Corporate awareness	4	(1)
Terms and conditions governing options	5	(1)
Supervision and regulation	5	(1)
The basics	6	(10)
Foreign exchange (FX)	7	(1)
Spot and forward FX	8	(1)
Option definition	8	(1)
Premium	9	(1)
Face value	10	(1)
Call and put	10	(1)
Exercise	11	(1)
Maturity (expiry) date and time	11	(1)
Option style	12	(1)
Strike	13	(1)
Intrinsic value	13	(3)
Option characteristics	16	(10)
FX position	16	(2)
Long call (bought call)	18	(1)
Long put (bought put)	19	(1)
Call and put together (straddle)	20	(1)
Short options	21	(2)
Interim value of options	23	(1)
Underlying position	24	(2)
The market-place	26	(13)
Over the counter (OTC)	26	(5)
Exchange listed options	31	(5)
Comparison (OTC versus exchange listed contracts)	36	(3)
Put-call parity	39	(8)
Synthetic positions	39	(4)
Put-call parity: working example	43	(2)
Other synthetics	45	(1)
Interim values	46	(1)
Option pricing	47	(21)
Black-Scholes	47	(1)
Input factors for pricing	48	(1)
Volatility	49	(2)
Components of price	51	(1)
Intrinsic value	51	(1)
Time value	52	(1)
Components of time value	53	(1)
Time value effects: non-linear nature	54	(2)
Time value effects: ATM versus OTM/ITM options	56	(2)
Time value adjustment through volatility	58	(4)
Pricing terms	62	(2)
Pricing systems	64	(2)
Pricing summary	66	(2)
Using options for hedging: simple	68	(33)
Calls and puts	68	(4)
Selling options	72	(2)
The risk reversal	74	(10)
Participating forwards	84	(6)
Seagulls	90	(5)
Designing a strategy	95	(4)
Risk manipulation	99	(2)
The delta and option replication	101	(12)
Understanding the delta	102	(3)
Delta hedging	105	(4)
Option replication	109	(4)
OTC market practice	113	(20)
Volatility quoting	114	(11)
Exercise procedure	125	(1)
Other practices	126	(2)
Corporate market	128	(1)
How to compare quotes using volatility	129	(4)
Bank relationships	133	(7)
The salesperson	133	(2)
The dealer	135	(2)
Is price all that matters?	137	(1)
Guidelines for good relationships	137	(3)
Using options for hedging: intermediate	140	(41)
Compound options	141	(3)
Forward start options	144	(1)
Average rate options (AVROs)	145	(6)
Barrier options	151	(27)
Lookback (optimal) options	178	(1)
Basket options	179	(2)
Using options for hedging: advanced	181	(27)
The digital (binary or bet) option	182	(13)
Exotic options in strategies	195	(13)
Risk control	208	(8)
Interim value of options	209	(1)
Risk simulations	210	(5)
Software systems	215	(1)
Documentation	216	(19)
History of option terms and conditions	217	(2)
Market preference: terms and conditions	219	(1)
Master agreements: summary	219	(1)
1997 international currency options market (ICOM) terms	220	(2)
Market practice	222	(7)
Schedule of Certain matters to be agreed	229	(2)
The barrier option addendum	231	(2)
Impact of 1997 ICOM	233	(2)
Counterparty credit risk	235	(12)
Background	235	(1)
Foreign exchange limits	236	(2)
Netting	238	(2)
Option counterparty risk factors	240	(4)
Margins	244	(1)
Master Agreement terms and conditions	245	(1)
Conclusion	245	(2)
Glossary of terms	247	(20)
Appendix I Currency codes	267	(4)
Apendix II London Code of conduct	271	(2)
Appendix III Exchange contract specifications	273	(2)
Appendix IV International OTC market terms and conditions	275	(48)
Index	323