Equity Derivatives 1: Trading and Managing Vanilla Options
"An excellent course - plenty of useful examples and an engaging teacher."
James Davies - Developer
Click for more comments
Course Outline
An intensive three-day workshop on trading and managing risk of vanilla equity derivatives. Presented by Alberto Cherubini.
This programme provides a solid understanding of modern vanilla equity derivatives and their markets, including best practices and conventions both from a buy side and sell side perspective.
The course will also explore the technical basis of derivatives pricing, hedging and risk management. Delegates will assess volatility and its impact on option pricing and gain a deep understanding of standard models used in the market. The Black-Scholes framework is discussed in depth including extensions, while the last session covers the volatility surface in detail, including trading and risk management of vanilla portfolios.
The course will also explain how to compute probabilities from market option prices, and discuss applications to proprietary trading and simple exotic options.
Who The Course is For
Beginners in equity derivatives, buy-side equity professionals, sell side junior salespeople, brokers, middle and back office, legal and IT professionals. The course will cover details of market practices and conventions, so it is suited to derivatives professionals from other asset classes considering expanding into equity derivatives.
Tell a colleague about this course
Prior Knowledge
The first day requires only very basic financial maths including present value of money and the exponential. From the second day, knowledge of calculus (derivatives and integrals) and basic statistics (average, variance, standard deviation) is necessary. Having some Excel experience will enable the attendants to benefit fully from the workshops and exercises.
This
program is eligible for
24 Continuing Education credit hours from the CFA Institute. If you are a
CFA Institute member, CE credit for your participation in this program
will be automatically recorded in your CE Diary.
Brochure with Booking Form | Register
to Receive Updates
Day One
Introduction
The forward
- The importance of the forward
- Forward contract vs. futures
- The forward price
- Static replication and arbitrage
- Margins, funding, the box
- Why delta not always 1
- Effects of dividends, borrow-costs, taxes, funding
Examples
Options basics
- Vanilla options payoffs
- Time and intrinsic value
- ATM, ITM, OTM
- Put call parity arbitrage
- Dependence on inputs
- Theta
- Model independent bounds on price
- First mention of Black-Scholes formula
Exercises
Option Features
- Cash settled/Physical delivery
- American / European
- Multipliers
- Notional vs. units
- Percentage vs. absolute
- Corporate actions
- Dividend treatment
Examples
Using Options outright: Investment and Trading Strategies
Directional trading
- Conversions, synthetics
- Call and put (Bull and Bear) spreads
- Collars, Risk reversals
Non-Directional (range/time decay) trading strategies
- Calendars
- Straddles and strangles
- Butterflies
- Others
From prices of spreads to probabilities
Pulling the trigger: risk analysis, cost /benefit
Yield enhancement and cost reduction strategies
- Over and under-writing strategies
- Stock replacement strategies
Examples and exercises
Using Options outright: Risk Reduction Strategies
Use of vanilla options in portfolios: puts, calls, collars, futures
Costs of hedging
- Timing the hedge?
- Is it worth it?
- Using axes
Rolling the hedges
Index options as macro hedges, relationships to other asset classes
Proxy hedging of portfolios
Texas hedging
Examples
Overview of products
Reminder: what is an equity index
- Definitions, numbers, multipliers
- Price return vs. total return
- ETF’s
- Lore and examples
Delta 1 products
- Futures, EFP, cash & carry
- Forward contracts, synthetics, combos, jelly rolls
- Equity swaps and the like, CFD's
- Trading conventions and mechanics of execution
Zoology of listed and OTC vanilla options
- Index vs. single stocks
- Options on futures
- Examples from various markets
- Trading conventions, mechanics of execution
Warrants
Convertible bonds
Other products
Overview of markets and business models
Market knowledge
- Conventions
- Execution mechanics
- IDB's
- Timings, numbers
Market structure
- Main players, business models
- Behaviours and biases
- Flows
- Supply and demand
- Impact on other markets and prices
Day two
Volatility
The role of volatility in option pricing
Volatility as an ‘asset class’
Implied volatility
- Meaning
- A mention of the surface
Realised volatility
- Standard formulas
- Advanced formulas
- Properties and empirical observation
- Mention of estimation methods
Exercises
Vanilla Option: Black-Scholes pricing
- Options trading: is it a zero sum game?
- Dynamic delta hedging of options: a simple minded strategy
- Volatility trading in a simplified sense
- Intuitive derivation of Black-Scholes formulas (BS)
- Rules of thumb
- Understanding BS: reading it in terms of forwards and discount factors
- Understanding BS: reading it as expectation
- Understanding BS: random walk and diffusion
- The BS assumptions and how they break
- American options valuation
- How to decide to early exercise in practice
Excel Exercises: BS formulas, diffusion plots
Option Price Sensitivities
Delta, gamma, vega, theta, rho
- definitions, formulas
- meaning
How greeks change: time behaviour, spot and strike behaviour
Higher order greeks: vanna, volga
Examples, exercises
Dynamic delta hedging in practice
- BS delta hedging workshops
- P&L analysis
- The practical meaning of gamma
- Theta decay: the cost of time
- The theta/gamma balance
- Rules of thumb
- Volatility trading revisited
- Vega vs. Gamma
- Trading “realised”
- Trading “implied”
- BS formula for delta - which vol to use?
- Details of delta hedging strategies - when? At what level?
- Alternative choices for delta
- A word of caution: jumps and their effect on the hedging argument
Workshop: Dynamic delta hedging: from the simple BS case to more complex and realistic scenarios
Day three
Implied Probability and Expectation Pricing
- The link between vanilla option prices and probability
- Application to proprietary trading
- Delta from probability?
- Expectation pricing: using the probability distribution to price derivatives
- Pricing exotics without models
- Calculating the static hedging portfolio for an exotic option
- The missing link: conditional probability
- Why exotic prices are non-unique
- Workshop:
Workshop: from vanilla prices to probability and vice versa
Extending the BS framework
- How Black and Scholes fails
- Simple extensions:
- Leyland formula and other rules of thumbs
- Effect of discrete hedging
- Various kinds of non-normality
- Gaps and jumps
- Lack of liquidity and feedback loops
- Examples
- The diffusive framework
- Revisiting the P&L and hedging equations
- Implications of non-normality on hedging strategies
Workshops:
Hedging discreetly and with costs
Short gamma feedback loop, P&L effect
The Volatility Surface
Origins and meaning of the surface
Shape
- Skew, smile and their causes
- Link to credit: “put floor” from default
- Other interpretations
- Termstructure and roll-down
The dynamics of the surface
- Stickiness and others
- Realised dynamics of the surface
- Theory, practice, and traders' biases
- Effect of different dynamics on delta calculation
- Examples of calculations
Advanced Risk
- Reporting vega by bucket
- Calculating skew and smile exposures
- Comparison to volga and vanna
- Tricks and pitfalls
Trading the volatility surface
- 3 ways to trade skew
- Term structure trades
- Smile and curvature trades
Parameterisation, interpolation, or grid of numbers?
- Different needs, different tools
- Liquid listed instruments
- Making markets in vanilla OTC
- Illiquid underlying
- The pitfalls of a non-parametric volsurface
- Examples of parametric volsurfaces
