The total global market value of derivative securities such as forwards, futures and options is exponentially greater than the value of stocks, which underscores the importance for all finance professionals to understand how these markets work, how these derivatives can be used, and how to value them. The course also explores specific applications of options in the corporate setting, including executive stock options and real options. Finally, the course examines how corporations can manage currency, commodity price, interest rate, and other risks they face in doing business in a multinational setting.
Student Learning Objectives
By the end of this course you will be able to:
- Understand different risks faced by the firm, and describe the link between spot rates, forward rates, interest rates, and inflation
- Understand how risk management principles can be applied to create value
- Understand the characteristics of different derivative instruments and how they can be used for hedging, speculation, or arbitrage
- Explain the mechanics of derivatives markets (e.g., how markets are organized, how instruments are traded, and how margin requirements are set, etc.)
- Understand how to estimate the value of derivative instruments
- Understand how to implement trading strategies involving combinations of options
- Understand the real options approach to valuing investment opportunities
- Discuss various historical examples where derivatives were misused
- Describe the concept of value at risk
Click Here for Video Transcript
ALLAN EBERHART: Welcome to the Derivatives and Risk Management course. My name is Alan Eberhart, Professor of Finance and Senior Associate Dean for the Master of Science in Finance or MSF program here at Georgetown University's McDonough School of Business. And I'm thrilled to be teaching the course with my colleagues, Jim Angel and Allen Ammerman.
JAMES ANGEL: I really want to echo your thoughts here because this is some of the most challenging, interesting, fun, and yet directly applicable material in the entire MSF program. I hope you have as much fun learning this material as we are having teaching it.
DAVID ALLEN AMMERMAN: Here here. Each of us has developed the asynchronous materials for two modules of this course. And what we would like to do now is give you a brief overview of what we will cover in each module. In module one, we're going to explore various questions related to risk management. What do we mean by risk in a financial context? Is risk management something that is desirable? Does it create value for investors? If so, then how? What are some different tools and approaches managers can use to manage risk? By the end of the first module, we will have answered these and other questions and you'll be left with a set of guidelines to help you think through issues related to risk management.
In module two, we begin our deep dive into the world of derivatives, beginning with forwards and futures contracts. Forwards and futures are generally straightforward with regard to their terms and mechanics, making them some of the easiest derivatives to understand and value. And that's why they're the starting point in our exploration of derivatives.
JAMES ANGEL: In unit three, you will learn the secret alchemy of finance, swaps. You will learn how to transform any kind of exposure into a different exposure. It's magic and it doesn't even require a magic wand. You will learn how to create and value swaps. Plus you will learn how to use these valuable tools to transform interest rate risk and currency risk.
ALLAN EBERHART: In unit four, I'm going to discuss an entirely new class of derivatives called options, which give the purchaser the right to buy or sell an underlying asset. I'll demonstrate how to value these options at expiration and then set the table for the much more challenging and important task of valuing them before they expire. Toward this end, I'll show the primary determinants of an option's value. In unit five, I'll build upon the foundational material covered in unit four to introduce the single period and multi-period binomial option pricing models. I'll then introduce the Black-Scholes option pricing model and show the relation between this model and the binomial model.
JAMES ANGEL: With great power comes great risk. Derivatives are incredibly powerful risk transfer tools. That makes them very risky. Indeed, that high risk is not a bug but a feature. Therefore, it is extremely important to understand all the risks. We will delve deeper into the so-called Greeks of options as well as learn about value at risk. Furthermore, we'll learn about the many derivative disasters that have occurred so that you are not doomed repeat them.