Panicked by derivatives?! feeling, into, completely, remember, amount

evolsteevol

Hi Guys,
Just wondering if anyone else is feeling completely daunted by the derivatives topics and the amount of formulas that we must remember? How much time have you spent on this topic? Am worried it will take me too long and eat into time I need to spend on other topics…

bolligerallstar

S2000magician wrote:
Aether wrote:
S2000magician wrote:My mistake: you may have to calculate an option price from a 1-period or 2-period binomial model, but not from BSM.  I was thinking only about BSM.
Sorry.
[snip]
Are the CFAI rainmakers going to grace us with some assertive generosity, come exam day?
Surely you jest.
Aether wrote:
S2000magician wrote:My mistake: you may have to calculate an option price from a 1-period or 2-period binomial model, but not from BSM.  I was thinking only about BSM.
Sorry.
How did you reach that conclusion?
LOS 50b: Calculate and interpret prices of interest rate options and options on assets using one- and two-period binomial models.
CFA Institute says that you need to know how to calculate the price of options using binomial trees.
LOS 50c: Explain and evaluate the assumptions underlying the Black-Scholes-Merton model.
LOS 50d: Explain how an option price, as represented by the Black-Scholes-Merton model, is affected by a change in value of each of the inputs.
CFA Institute does not say that you need to know how to calculate the price of options using BSM.
I’d love if you can also paste the LOSs for readings 19-21. See how many “calculates” you find .

ashycal

Aether wrote:
S2000magician wrote:My mistake: you may have to calculate an option price from a 1-period or 2-period binomial model, but not from BSM.  I was thinking only about BSM.
Sorry.
Are the CFAI rainmakers going to grace us with some assertive generosity, come exam day?
Surely you jest.
Aether wrote:
S2000magician wrote:My mistake: you may have to calculate an option price from a 1-period or 2-period binomial model, but not from BSM.  I was thinking only about BSM.
Sorry.
How did you reach that conclusion?
LOS 50b: Calculate and interpret prices of interest rate options and options on assets using one- and two-period binomial models.
CFA Institute says that you need to know how to calculate the price of options using binomial trees.
LOS 50c: Explain and evaluate the assumptions underlying the Black-Scholes-Merton model.
LOS 50d: Explain how an option price, as represented by the Black-Scholes-Merton model, is affected by a change in value of each of the inputs.
CFA Institute does not say that you need to know how to calculate the price of options using BSM.

evolsteevol

Thx a lot! :-)

prashantsahni

Sorry Magician, you got me confused, do you mean we wont have to calculate call/put prices either with discrete or continuous models? what is required to know for the option chapter of the curriculum? I think Options chapter is too long in the curriculum but not to much to grasp.
Thx! good luck!

Darien

Once you get a basic understanding of the underlying principles for pricing and valuing derivatives, most of the formulae are pretty straightforward, and you’ll find that it isn’t as daunting as you thought it was.
Pricing a forward, future, or swap is simply a matter of applying arbitrage.  For forwards and futures, it’s cash-and-carry; for swaps it’s PV(leg 1) = PV(leg 2).  For swaps, if you treat the two legs as two bonds that are traded, its easy because you know how to find the PV (i.e., price) of a bond.
Option pricing is just a matter of applying an appropriate model (such as BSM), and you don’t have to do that on the exam.  Whew!
Valuing a forward, future, or swap is simply a matter of calculating the PV of each component and adding them up (using + for long and - for short).  For forwards and futures, it’s (St - PV(F)) for the long position, and (PV(F) - St) for the short position (with one exception).  For swaps it’s PV(received) - PV(paid).  (The exception for forwards and futures is for currency, where it appears that you’re discounting today’s spot rate.  That formula is never explained; I can run through it if you like so you can understand what’s going on.)
Valuing an option is no different than pricing an option (so you don’t even see “valuing an option” in the curriculum); you don’t have to do that on the exam.  Whew!
Apart from that, you have to remember the Greeks for bonds, and they’re all pretty simple.  (Remembering rho isn’t intuitive, but you can get it easily from the put-call parity equation.)
Seriously: Level II derivatives isn’t much harder than Level I derivatives and fixed income combined (with a smidge of econ: interest rate parity); you just have to think about the relationships.  I teach this all the time, and always have candidates say, after class, “That’s a lot easier than I thought it was.”  You can say the same thing.

Bad5shah

no big deal once you crammer the formulas..

adehbone

I was finding derivatives really difficult until I cracked open the Schweser notes, and now it seems much more straightforward than I originally thought. Did anyone else find the CFAI book on derivatives to be a bit confusing? I’m considering reading only Schweser + blue box question + EOC questions for this section and skipping the CFAI explanations. Thoughts?
Is anyone using only the Schweser text?

canadiananalyst

Fi readi9ng 44 is so much like derivatives

iteracom

Only did futures and forwards at this point, and indeed, like Charis said, they are very similar and above that, very logical in terms of valuation as well.
If you don’t understand by reading (I tend to lose attention when seeing a lot of formulas), try watching a video. I use Elan and they take a step-by-step approach, going very slowly in the beginning. Once I got the hang of it, I didn’t even need to finish the video as it’s quite straightforward once you see it.