Key Terms
RISK DEFINITION
Risk = uncertainty. You can't predict the future; that's the whole problem.
Hedging
Taking action to reduce exposure to risk. Protecting yourself from a bad outcome.
Speculating
Betting on a future outcome to profit from it. Directional bet.
Both sides benefit
Buyer locks in cost; seller locks in revenue.
Margin
Collateral posted to guarantee contract obligations. Marking to market: daily cash settlement of price changes.
Exchange rate
The price of one currency in terms of another. Spot rate: the current market exchange rate right now.
Appreciate
Currency buys MORE of a foreign currency than before.
Depreciate
Currency buys LESS of a foreign currency than before.
Example
A company that collects euros and pays in pounds can offset that exposure by also running a division that collects pound
Options are derivatives
Their value comes from the value of an underlying asset.
American option
Can be exercised any time up to and including expiration. European option: can only be exercised ON the expiration date.
Holder exercises when
Spot price is BELOW strike price (can sell at a better price via the option than in the market). Holder lets it expire w
CORE RELATIONSHIP
Interest rates up = bond prices down. Interest rates down = bond prices up.
Why it matters for bonds
If rates rise after you buy a fixed-rate bond, your bond pays less than new bonds; buyers will only purchase it at a dis
LIBOR
Historically the benchmark floating rate. Being phased out; alternatives in transition as of early 2020s.