The economics of money, banking, and financial markets

CHAPTER 4

Financial Derivatives 

1

Hedging ............................................................................................................................................. 1

Interest-Rate Forward Contracts ................................................................................................. 2

APPLICATION

  Hedging with Interest-Rate Forward Contracts .................................. 2

Pros and Cons of Forward Contracts .....................................................................................  3

Financial Futures Contracts and Markets ................................................................................. 4

APPLICATION

 Hedging with Financial Futures ........................................................... 5

Organization of Trading in Financial Futures Markets ...........................................................  7

The Globalization of Financial Futures Markets .....................................................................  8

Explaining the Success of Futures Markets ............................................................................  8

APPLICATION

  Hedging Foreign Exchange Risk ....................................................... 10

Hedging Foreign Exchange Risk with Forward Contracts ....................................................  10

Hedging Foreign Exchange Risk with Futures Contracts......................................................  10

Options ...........................................................................................................................................  11

Options Contracts ...............................................................................................................  12

Profits and Losses on Option and Futures Contracts ...........................................................  12

APPLICATION

  Hedging with Future Options ........................................................... 15

Factors Affecting Option Premiums .....................................................................................  16

Summary .............................................................................................................................  17

Swaps ...............................................................................................................................................  18

Interest-Rate Swap Contracts ...............................................................................................  18

APPLICATION

  Hedging with Interest-Rate Swaps ..................................................... 19

Advantages of Interest-Rate Swaps .......................................................................................  19

Disadvantages of Interest-Rate Swaps ...................................................................................  20

Financial Intermediaries in Interest-Rate Swaps ...................................................................  20

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  Contents in Detail

Credit Derivatives .........................................................................................................................  20

Credit Options ....................................................................................................................  21

Credit Swaps .......................................................................................................................  21

Credit-Linked Notes ............................................................................................................  22

APPLICATION

  Lessons from the Global Financial Crisis: When Are Financial Derivatives 

Likely to Be a Worldwide Time Bomb?  22

Summary  24   •   Key Terms  24   •   Questions  25   •   Applied Problems  25   •    

Data Analysis Problems  26   •   Web Exercises  27   •   Web References  27