Vanilla Options - Mechanics, Analysis and Strategies

2 days
Prague, NH Hotel Prague
  • Options Markets and Instruments
  • Non-linearity of Option Pay-off Profiles
  • Understanding Volatility's Role in Option Pricing
  • Analytical Option Pricing
  • Numerical Option Pricing
  • “Greeks” and other Risk Analytics
  • Trading and Hedging with Options
The purpose of this seminar is to give you a thorough introduction to financial options and a good understanding of their mechanics, pricing and applications.

We start with general introduction to options and option markets. We present the basic options structures, we explain the basic option terminology, and we explain how options are traded and settled on options exchanges and in the OTC market.

We then explain the basic principles of option pricing. After a brief review of probability theory and an overview of fundamental statistical measures, we explain and demonstrate in more detail how options are priced. We first look at the pay-off profiles of different option types, and we explain the so-called put-call parity and other important relationships between options prices. Further, we describe the role of volatility in option pricing, we discuss what lies behind the term structure of volatility, and we explain techniques for volatility forecasting.

A number of important valuation models will then be presented and demonstrated, including the Black-Scholes, Black, Garman-Kohlhagen, Cox-Ross-Rubinstein and Black-Derman-Toy (BDT) models. We illustrate the use of these models with many practical examples.

Further, we explain how the important risk measures such as delta, gamma, vega, rho, theta etc. are derived from option pricing models and how these key ratios should be properly interpreted. We will make sure that you fully appreciate the importance of these sensitivities in trading and hedging. We present and discuss a number of trading strategies with options. Such strategies include "open position" strategies, "spread" strategies, "bull" and "bear" strategies, and different volatility strategies with options. The strategies will be illustrated in depth using real-life data and computer simulations.

We then explain how options can be effectively used to hedge interest rate, FX, equity, commodity and energy risk. We give examples of simple 1:1 hedges, but also more complex portfolio hedging and ratio hedging strategies will be examined in full detail. Finally, we explain delta-hedging and risk transferring through structured products.

Option Pricing and Risk Assessment

  • Closer Look at Option Pay-Off Profiles
    • Value Diagrams
    • P&L Diagrams
  • Pricing Basics
    • Minimum Option Value
    • The Put/Call Parity
    • "Intrinsic" and "Time Value"
  • Important Statistics in Option Pricing
    • Probability Distributions and Volatility
  • The Black-Scholes/Black Models
  • The Garman-Kohlhagen Model (Currency Options)
  • Option Price Sensitivities ("Greeks")
  • Computer Simulations and Exercises

12.00 - 13.00 Lunch

13.00 - 16.30 Option Pricing and Risk Assessment (Continued)

  • Introduction to Numerical Option Pricing
  • "Risk Neutral" Pricing
  • Numerical Model for Pricing of Stock Options (Cox-Ross-Rubinstein)
    • Modelling the Behaviour of Stock Prices
    • Setting up the Pay-off Tree
    • Calculating Option Pay-Offs
    • Valuing European and American Call and Put options
    • Calculating the "Greeks" in the CRR Model
    • Valuing Currency Options Using the CRR Model
  • Numerical Models for Valuing Interest Rate Options
    • The Vasicek Model
    • The BDT Model
    • The Hull-White (Extended Vasicek) Model
  • Computer Simulations
  • Exercises

Day Two

09.00 - 09.15 Brief recap

09.15 - 12.00 Trading with Options

  • The Trading Process
    • Formulating Expectations
    • Establishing a Risk Profile
    • Search and Selection of Strategies
  • Bull strategies
    • Long Call, Short Put, Bull Spread, Long Synthetic Future, Long Semi-Future
  • Bear strategies
    • Long Put, Short Call, Bear Spread, Short Synthetic Future, Short Semi-Future
  • Volatility Strategies
    • Straddles and Strangles
    • Butterflies and Condors
  • Workshop: Design Butterfly
  • Workshop: "Twin Peaks"
  • Spread Trading
    • Intra-Market and Inter-Market Spreads
    • Calendar Spreads
    • Follow-up Strategies
  • Computer Simulations and Exercises

12.00 - 13.00 Lunch

13.00 - 16.30 Hedging with Options

  • The Hedging Process
  • Single Position "One-to-One" Hedge
    • "Protective Put"
    • "Covered Call"
  • Portfolio Hedging
    • Hedging a Portfolio of Stocks
    • Hedging a Portfolio of Bonds
    • Hedging a Currency Position
  • Hedging Uncertain and Contingent Cash flows
  • Dynamic Hedging Strategies
  • Hedging of Market-maker Positions in Options
    • Delta-Hedging of Options Positions
    • Hedging of Gamma and Vega Risks
    • The Problem with Fat Tails
  • Exercises

Evaluation and Termination of the Seminar

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