Download Disadvantages of futures

Multinational Financial Management
Alan Shapiro
10th Edition
John Wiley & Sons, Inc.
PowerPoints by
Joseph F. Greco, Ph.D.
California State University, Fullerton
1
CHAPTER 8
Currency Futures and
Options Markets
PART I
Futures Contracts
3
FUTURES CONTRACTS
I.
CURRENCY FUTURES
A. Market History:
1. Background
a. Long history
b. Extremely volatile due to their
information driven nature
c. The market plays a Price Discovery Role
for other financial markets such as the
cash markets
4
4
FUTURES CONTRACTS
d. International Monetary Market
(IMM) 1972:
opened by the Chicago Mercantile
Exchange
Purpose:
to provide a stable market for the
exchange of currency futures.
5
5
FUTURES CONTRACTS
2.
IMM provides
a.
b.
6
an outlet for hedging currency
risk with futures contracts.
Definition of a Futures Contract:
contract written requiring three
things:
a standard quantity of an
available currency
at a fixed exchange rate
at a set delivery date.
6
FUTURES CONTRACTS
c.
Available Futures Contracts:
- in over 20 different currencies
- cross-rate contracts
7
7
FUTURES CONTRACTS
d. Transaction costs:
in the form of a commission payment to a floor
trader
e. Leverage is high:
Initial margin required is relatively low (less than
2% of contract value)
8
8
FUTURES CONTRACTS:
SAFEGUARDS
f.
Maximum price movement rules:
Contracts set daily to a price limit that
restricts maximum daily upward and
downward movements
9
9
FUTURES CONTRACTS:
SAFEGUARDS
g. Maintenance Margins:
When the account balance falls below the
maintenance margin, a margin call may be
necessary to maintain the minimum balance.
10
10
FUTURES CONTRACTS
h.
Global futures exchanges:
1.)
2.)
3.)
4.)
5.)
6.)
11
I.M.M. International Monetary
Market
L.I.F.F.E. London International
Financial Futures Exchange
C.B.O.T. Chicago Board of Trade
S.I.M.E.X. Singapore International
Monetary Exchange
D.T.B. Deutsche Termin Bourse
H.K.F.E. Hong Kong Futures
Exchange
11
FUTURES CONTRACTS
B.
Forward vs. Futures Contracts
Basic differences:
1. Trading Locations
2. Regulation
3. Frequency of
delivery
4. Size of contract
5. Transaction Costs
12
6. Quotes
7. Margins
8. Credit risk
12
FUTURES CONTRACTS
C. Advantages of
futures:
1. Easy liquidation
2. Well- organized
and stable market.
Disadvantages of
futures:
1.
2.
3.
13
Limited to a few
currencies
Limited dates
of delivery
Rigid contract
sizes.
13
PART II
Currency
Options
14
CURRENCY OPTIONS
I.
OPTIONS
A. Currency options
1. offer another method to
hedge exchange rate risk
2. first offered on Philadelphia
Exchange (PHLX)
15
15
HOW CURRENCY OPTIONS ARE
PURCHASED
1. Overview:
Buyers
Sellers=Writers
Premium
Buy
Sell
Buy
Sell
PUT
CALL
16
16
CURRENCY OPTIONS
2. Definition:
a contract from a writer ( the seller) that gives
the right not the obligation to the holder (the
buyer) to buy or sell a standard amount of an
available currency at a fixed exchange rate
for a fixed time period
17
17
CURRENCY OPTIONS
3. Expiration Dates of Currency Options:
a. American
exercise date may occur any
time up to the expiration date.
b. European
exercise date occurs only at the
expiration date and not before.
18
18
CURRENCY OPTIONS
4.
What is the premium?
the price of an option that the writer charges
the buyer
19
19
CURRENCY OPTIONS
5. Exercise Price
a. Sometimes known as the
strike price.
b. The exchange rate at which the
option holder can buy or sell the
contracted currency.
20
20
CURRENCY OPTIONS
c. Types of Currency Options:
21
1.)
Calls: give the owner the right to
buy the currency
2.)
Puts: give the owner the right to sell
the currency
21
CURRENCY OPTIONS
6.
Status of an option
a.
b.
c.
22
In-the-money
Call: Spot > strike
Put: Spot < strike
Out-of-the-money
Call: Spot < strike
Put: Spot > strike
At-the-money
Spot = the strike
22
CURRENCY OPTIONS
7. Why Use Currency Options?
a. For the firm hedging foreign exchange risk
when a future event is very uncertain.
b. For speculators who profit from favorable
exchange rate changes.
23
23
Copyright 2014
John Wiley & Sons, Inc.
All rights reserved. Reproduction or translation of this work
beyond that permitted in section 117 of the 1976 United
States Copyright Act without express permission of the
copyright owner is unlawful.
Request for further
information should be addressed to the Permissions
Department, John Wiley & Sons, Inc. The purchaser may
back-up copies for his/her own use only and not for
distribution or resale.
The Publisher assumes no
responsibility for errors, omissions, or damages caused by
the use of these programs or from the use of the
information herein.