Risk Management with Financial Derivatives w12

Vocabulary flashcards for understanding key terms in risk management with financial derivatives.

Hedge

To engage in a financial transaction that reduces or eliminates risk.

Long Position

When a financial institution has bought an asset.

Short Position

When a financial institution has sold an asset that it has agreed to deliver to another party at a future date.

Forward Contract

An agreement between a buyer and a seller that an asset will be exchanged later for cash at an agreed-upon price.

Interest-Rate Forward Contract

Involves the future sale (purchase) of a debt instrument.

Financial Futures

Standardized, liquid contracts for future delivery of financial instruments; includes interest-rate, stock index, and currency futures.

Arbitrage

The elimination of riskless profit opportunities in the futures market.

Micro Hedge

Hedging the interest rate for a specific asset.

Macro Hedge

Hedging the entire portfolio.

Open Interest

Number of contracts outstanding.

Call Option

An option that gives the owner the right (but not the obligation) to buy an asset at a pre-specified exercise (or strike) price within a specified period of time.

American Option

An option that can be exercised any time up to the expiration date.

European Option

An option that can be exercised only on the expiration date.

Put Option

An option that gives the owner the right to sell an asset to the option writer at a pre-specified exercise price.

Interest Rate Swap

The exchange of one set of interest payments for another set of interest payments, all denominated in the same currency.

Credit Derivatives

Financial contracts that offer payoffs on previously issued securities, such as credit options, credit swaps, and credit-linked notes.