Options on Foreign Exchange, 2nd Edition

by David F. DeRosa

• ISBN13: 9780471316411
• ISBN10: 0471316415
• Edition: Revised
• Format: Hardcover
• Copyright: 2000-01-01
• Publisher: Wiley

Summary

Your A to Z Guide to the World's Largest Option Market "A clearly written manual that flows smoothly. Whether you have 20 years of experience in the FX options markets or none, you will learn something interesting from reading this book. Highly recommended for both traders and non-traders." * Adam Kreysar, Global Head FX Options Warburg Dillon Read "DeRosa presents technical material with a minimum of technical fuss. Filtered through his scholarship and practical trading experience, up-to-date topics such as exotic options, forward volatilities, and the volatility smile become accessible. The book will be extremely useful to asset managers and risk managers." * Allan M. Malz, Partner The RiskMetrics Group "This new edition of Options on Foreign Exchange provides an exhaustive review of the literature on currency options, in addition to covering the practical aspects of the business. It is greatly pedagogical and well written-as can be expected from David DeRosa." * Nassim Taleb, President Empirica Capital LLC

Author Biography

DAVID F. DEROSA is President of DeRosa Research and Trading, Inc. and Adjunct Professor of Finance at the Yale School of Management. He has worked at a number of Wall Street asset management firms and has traded foreign exchange for Swiss Bank Corporation, New York. DeRosa received his PhD in finance and economics from the Graduate School of Business of the University of Chicago. He is the editor of Currency Derivatives (Wiley), and the author of Managing Foreign Exchange Risk. DeRosa also contributes columns on international finance to Bloomberg News.

Table of Contents

Preface	xi
Acknowledgments	xiii
Introduction to the Currency Option Market	1	(6)
History and Size of the Market	1	(1)
Option Basics	2	(2)
Exotic Options	4	(3)
Foreign Exchange Basics	7	(22)
The International Monetary System	7	(4)
Spot Foreign Exchange and Market Conventions	11	(6)
Foreign Exchange Dealing	17	(6)
Interest Parity and Forward Foreign Exchange	23	(6)
Trading Currency Options	29	(18)
The Interbank Currency Option Market	29	(6)
Listed Options on Actual Foreign Currency	35	(3)
The Currency Futures and Futures Options Market	38	(9)
European Currency Options	47	(20)
Arbitrage Theorems	48	(2)
Put-Call Parity for European Currency Options	50	(3)
The Black-Scholes-Merton Model	53	(9)
How Currency Options Trade in the Interbank Market	62	(3)
Reflections on the Contribution of Black, Scholes, and Merton	65	(2)
European Currency Option Analytics	67	(30)
Base-Case Analysis	67	(2)
The ``Greeks''	69	(9)
Special Properties of At-the-Money-Forward Options	78	(2)
Directional Trading with Currency Options	80	(9)
Hedging with Currency Options	89	(3)
Appendix: Derivation of Delta	92	(5)
Volatility	97	(26)
The Various Meanings of Volatility	97	(7)
The Volatility Term Structure	104	(1)
Forward Volatility	105	(1)
Smiles, Risk Reversals, and the Implied Volatility Surface	106	(2)
Risk-Neutral Densities	108	(2)
Dealing in Currency Options	110	(2)
Extensions of the BSM Model	112	(5)
Trading Volatility	117	(6)
American Exercise Currency Options	123	(24)
Arbitrage Conditions	123	(1)
Put-Call Parity for American Currency Options	124	(3)
General Theory of American Currency Option Pricing	127	(2)
The Economics of Early Exercise	129	(4)
The Binomial Model	133	(7)
The Binomial Model for European Currency Options	140	(1)
American Currency Options by Approximation	141	(6)
Currency Futures Options	147	(22)
Currency Futures and Their Relationship to Spot and Forward Exchange Rates	147	(5)
Arbitrage and Parity Theorems for Currency Futures Options	152	(7)
Black's Model for European Currency Futures Options	159	(3)
The Valuation of American Currency Futures Options	162	(7)
Barrier Currency Options	169	(26)
Single-Barrier Currency Options	170	(7)
Static Replication of Barrier Options	177	(3)
Stopping Time	180	(1)
Binomial and Trinomial Models	181	(2)
Double-Barrier Knock-out Options	183	(2)
Binary Barrier Options	185	(6)
Contingent Premium Options	191	(1)
What the Formulas Don't Reveal	192	(3)
Nonbarrier Exotic Currency Options	195	(12)
Average Rate and Average Strike Currency Options	195	(4)
Compound Currency Options	199	(3)
Basket Options	202	(2)
Quantos Options	204	(1)
Comments on Hedging with Nonbarrier Currency Options	205	(2)
Bibliography	207	(10)
Index	217