Introduction to Derivative Securities

Sem-1, 2015

Tutorial 1
Textbook: Fundamentals of Futures and Options Markets by John C. Hall. Pearson new
International Edition. Ed 8. ISBN number: 978-1-29204-190-2
Note: Questions with * must be covered in tutorial class
Problem 1.10.
Explain why a futures contract can be used for either speculation or hedging.
Problem 1.13.
Suppose that a March call option on a stock with a strike price of $50 costs $2.50 and is held until
March. Under what circumstances will the holder of the option make a gain? Under what
circumstances will the option be exercised? Draw a diagram showing how the profit on a long
position in the option depends on the stock price at the maturity of the option.
Problem 1.25*
A trader sells a put option with a strike price of $40 for $5. What is the traders maximum gain and
maximum loss? How does your answer change if it is a call option?
Problem 2.10.
Explain how margin protect investors against the possibility of default.
Problem 2.11*
A trader buys two July futures contracts on frozen orange juice. Each contract is for the delivery of
15,000 pounds. The current futures price is 160 cents per pound, the initial margin is $6,000 per
contract, and the maintenance margin is $4,500 per contract. What price change would lead to a
margin call? Under what circumstances could $2,000 be withdrawn from the margin account?
Problem 2.12. *
Show that, if the futures price of a commodity is greater than the spot price during the delivery period,
then there is an arbitrage opportunity. Does an arbitrage opportunity exist if the futures price is less
than the spot price? Explain your answer.
Problem 2.13.
Explain the difference between a market-if-touched order and a stop order.
Problem 2.14.
Explain what a stop-limit order to sell at 20.30 with a limit of 20.10 means.
Problem 2.16.
On July 1, 2013, a Japanese company enters into a forward contract to buy $1 million with yen on
January 1, 2014. On September 1, 2013, it enters into a forward contract to sell $1 million on January
1, 2014. Describe the profit or loss the company will make in dollars as a function of the forward
exchange rates on July 1, 2013 and September 1, 2013.
Problem 2.24
Explain how CCPs work. What are the advantages to the financial system of requiring all
standardized derivatives transactions to be cleared through CCPs?

Introduction to Derivative Securities

Sem-1, 2015

Problem 9.9. *
Suppose that a European call option to buy a share for $100.00 costs $5.00 and is held until maturity.
Under what circumstances will the holder of the option make a profit? Under what circumstances will
the option be exercised? Draw a diagram illustrating how the profit from a long position in the option
depends on the stock price at maturity of the option.
Problem 9.10. *
Suppose that a European put option to sell a share for $60 costs $8 and is held until maturity. Under
what circumstances will the seller of the option (the party with the short position) make a profit?
Under what circumstances will the option be exercised? Draw a diagram illustrating how the profit
from a short position in the option depends on the stock price at maturity of the option.
Problem 9.13.*
Explain why an American option is always worth at least as much as a European option on the same
asset with the same strike price and exercise date.
Problem 9.15.
Explain carefully the difference between writing a put option and buying a call option.
Problem 9.16.
The treasurer of a corporation is trying to choose between options and forward contracts to hedge the
corporations foreign exchange risk. Discuss the advantages and disadvantages of each.