One important control is to ensure that the bank's trading positions assessed every day with the current market price → is called marking-to-market.
Yield Curve
- All financial instruments with future cash flow assessed by calculating the present value of cash flow that will be due on these instruments.
- Present value is calculated by discounting the future value using current interest → interest rates on the market are needed cash flow.
- To calculate the required market rate banks create a yield curve. Curve that is used by a trader is more complex and results from several instruments to ensure that the curve is consistent.
- Rate for a standard tempo jateuh (1, 2, 3, 6, 12 months and 2, 3, 5 years) can be observed from the curve but the rate for another time to enter rate is calculated by → perform interpolation.
- The value of products related to interest rates and all the products with cash flow in the future are sensitive to changes depending on the maturity curve and financial nature of the instrument.
- In practice, each of the major currencies have a number of yield curve that is used at the same time. The differences arise mainly from differences in the basic instrument used to create discrete points.
- The main type of interest rate-related yield curves are:
o Cash - this curve is used to re-assess their positions and fund loans. Point on the curve is determined by the standard maturity traded in the interbank market.
o Derivative - this curve is used to assess all types of derivatives, including options. Point on the curve is determined by a combination of instruments starting from the cash rate by a short maturity followed by a future contract. Finally, long term rates resulting from the swap rate for the standard trading period. The combination instrument is closely related to the basic instrument used to perform the derivatives risk hedger
o Bond - bond prices are assessed based on closing price on that day. However, some bonds are not actively traded or not traded every day. For the current bonds, closing price curve can be generated from the bond (bond curve). The curves are generated from a standard maturity traded in the government bond market. Bonds can be considered as a spread over government bonds (benchmark) when market prices are not available. This reflects differences oblogasi liquidity and credit standing of the issuer.
o Base - This curve was created to determine the price of instruments that are not actively traded on the interbank market, for example: rates set by central banks for discounting bills or the Base Rate in the UK. Curve generally shows a spread above or below the standard curve. Each point on the curve has the interest rate differential alone to mature on the standard curve.
Thursday, November 26, 2009
Saturday, November 21, 2009
Forward Rate Agreement (FRA) and Option Contract
FRA is the OTC derivatives that allow banks to take a position on the forward interest rates.
- The contract gives the right to borrow / lend funds at a fixed rate for a certain period begins at a later date.
- No exchange or the principal amount
- The maturity of the cash settlement is the difference between the rate of the contract with the LIBOR rate prevailing at the time.
FRA is the OTC version of the interest rate futures contracts and more flexible than the future. FRA raises interest rate risk
Option Contract
- Providing the right (but not the obligation) to customers to make transactions under the contracts at the agreed price → means that the transaction will not be executed if the rate is not attractive to the customer / buyer.
- The seller has the open-ended risk of the contract and receive a premium as compensation.
- Option can be made of all cash and derivative instruments, there is even the option to option.
- The main term to describe the option is:
o Call - a call option gives the buyer the right to buy the underlying instrument
o Put - put option gives the buyer the right to sell the underlying instrument
o Premium - the amount paid to the seller by the buyer
o Strike Price - the price where the transaction will be done
o Exercise - run the option buyer to enter into a contract
o Expiry date - last date which the option must be done
o American - option that can be done on every day until the due date
o European - that option can only be done on the due date
- Determination of option pricing is based on the possibility of the option is implemented. To calculate the value of the option, use the calculation of volatility. Volatility of prices is that market prices reflect market expectations of how much prices will move in both directions during the option period.
- Option risks inherent in the instrument basically happens when the option is. Option also has a volatility risk and interest rate risk because the date of execution occur in the future. Example: option on a bond have the same risk as the risk of bonds and the risk of changes in the volatility of the oblogasi.
- The contract gives the right to borrow / lend funds at a fixed rate for a certain period begins at a later date.
- No exchange or the principal amount
- The maturity of the cash settlement is the difference between the rate of the contract with the LIBOR rate prevailing at the time.
FRA is the OTC version of the interest rate futures contracts and more flexible than the future. FRA raises interest rate risk
Option Contract
- Providing the right (but not the obligation) to customers to make transactions under the contracts at the agreed price → means that the transaction will not be executed if the rate is not attractive to the customer / buyer.
- The seller has the open-ended risk of the contract and receive a premium as compensation.
- Option can be made of all cash and derivative instruments, there is even the option to option.
- The main term to describe the option is:
o Call - a call option gives the buyer the right to buy the underlying instrument
o Put - put option gives the buyer the right to sell the underlying instrument
o Premium - the amount paid to the seller by the buyer
o Strike Price - the price where the transaction will be done
o Exercise - run the option buyer to enter into a contract
o Expiry date - last date which the option must be done
o American - option that can be done on every day until the due date
o European - that option can only be done on the due date
- Determination of option pricing is based on the possibility of the option is implemented. To calculate the value of the option, use the calculation of volatility. Volatility of prices is that market prices reflect market expectations of how much prices will move in both directions during the option period.
- Option risks inherent in the instrument basically happens when the option is. Option also has a volatility risk and interest rate risk because the date of execution occur in the future. Example: option on a bond have the same risk as the risk of bonds and the risk of changes in the volatility of the oblogasi.
Monday, November 16, 2009
Interest Rate Swap and Currency Swap
Interest Rate Swaps are OTC derivatives that allow banks and borrowers to access long-term interest rates without having a long-term funds. The main barriers for banks to provide long-term funds is credit risk and liquidity needs, while many clients have long-term projects that require long-term pendanan with fixed rate. Interest rate swap is a solution because it allows both parties to swap interest rate swap without doing the amount of principal.
Interest rate swaps are traded to maturity 30 years (although only traded a little bit above 10 years). The maximum maturity depending on the currency and bond markets in the relevant currency, because the bonds used to hedge the swap.
Vanilla interest rate swap has a fix that was'swap 'on the floating rate index such as 1 month, 3 month or 6 month LIBOR → means that all parties agree to exchange the difference in these two interest rates. Because LIBOR rate changes every time the net exchange will differ from time to time.
Interbank market trading in the market especially vanilla swap but there are many variations to meet customer needs. Interest rate swap raises interest rate risk. Banks use various hedging instruments to manage interest rate risk.
Characteristics similar to interest rate swaps, except that the flow rate is in a different currency, for example: U.S. Dollar-euro interest flows to flows.
The main difference with the interest rate swap:
Interest Rate Swap
- No subject is transferred
- Raises the risk of interest rate
Currency Swap
- Essential in the transfer / on-the spot exchange rate
- Raises the risk of interest rates and exchange rates
Interest rate swaps are traded to maturity 30 years (although only traded a little bit above 10 years). The maximum maturity depending on the currency and bond markets in the relevant currency, because the bonds used to hedge the swap.
Vanilla interest rate swap has a fix that was'swap 'on the floating rate index such as 1 month, 3 month or 6 month LIBOR → means that all parties agree to exchange the difference in these two interest rates. Because LIBOR rate changes every time the net exchange will differ from time to time.
Interbank market trading in the market especially vanilla swap but there are many variations to meet customer needs. Interest rate swap raises interest rate risk. Banks use various hedging instruments to manage interest rate risk.
Characteristics similar to interest rate swaps, except that the flow rate is in a different currency, for example: U.S. Dollar-euro interest flows to flows.
The main difference with the interest rate swap:
Interest Rate Swap
- No subject is transferred
- Raises the risk of interest rate
Currency Swap
- Essential in the transfer / on-the spot exchange rate
- Raises the risk of interest rates and exchange rates
Wednesday, November 11, 2009
Derivative Instruments
Derivatives have become a major component of market risk for more than 20 years because banks continue to create innovative products to its customers. Previous products called "cash instruments" because it is the basic instrument for derivative products.
The main characteristic of the principal amount of derivatives transactions is not traded, thus reducing the credit risk and settlement risk. Derivatives are often called 'contracts for difference' because that is exchanged is a change from the cash price of the traded instrument. Because credit risk is reduced, then the banks can trade derivatives with a lot of cash compared to the instrument, so that makes markets more liquid and the resulting growth in trading volume and the amount of risk taken by banks.
Some derivatives are traded on futures exchanges and options traded on the over-the-counter (OTC) market. OTC market is a market where banks trade directly with each other and not through the stock.
One of the important derivatives are future contracts. These contracts are traded through exchanges which act as a clearinghouse for all parties. Therefore, banks do not have to deal with credit risk from many parties, but only with the stock alone. Future contracts are deals to be done on the basic instrument in the future. There are future contracts for most of the cash instruments ranging from bonds to commodities.
In general, future contract has the characteristics:
- Exchange traded → traded through the stock
- Value of fixed per-contract
- Date of delivery has been established
- Terms of delivery must be appropriate
- Daily margin calls
Future contract risk as instruments are essentially features and interest rate risk because the transaction date in the future.
The main characteristic of the principal amount of derivatives transactions is not traded, thus reducing the credit risk and settlement risk. Derivatives are often called 'contracts for difference' because that is exchanged is a change from the cash price of the traded instrument. Because credit risk is reduced, then the banks can trade derivatives with a lot of cash compared to the instrument, so that makes markets more liquid and the resulting growth in trading volume and the amount of risk taken by banks.
Some derivatives are traded on futures exchanges and options traded on the over-the-counter (OTC) market. OTC market is a market where banks trade directly with each other and not through the stock.
One of the important derivatives are future contracts. These contracts are traded through exchanges which act as a clearinghouse for all parties. Therefore, banks do not have to deal with credit risk from many parties, but only with the stock alone. Future contracts are deals to be done on the basic instrument in the future. There are future contracts for most of the cash instruments ranging from bonds to commodities.
In general, future contract has the characteristics:
- Exchange traded → traded through the stock
- Value of fixed per-contract
- Date of delivery has been established
- Terms of delivery must be appropriate
- Daily margin calls
Future contract risk as instruments are essentially features and interest rate risk because the transaction date in the future.
Friday, November 6, 2009
Trading Instrument - Cash Instruments
There are various instruments tiger trade, where products are instruments commonly traded internationally or called 'vanilla product', because they are a pure form. The main currencies traded was USD, EUR, JPY and GBP.
Cash instruments
Spot foreign exchange transactions
Spot transactions are foreign exchange transactions for the next 2 days or it is called date spot. 2-day period arising from interbank settlemen instructions to use the telegraph and the bank took 2 days to ensure that the instructions can be executed. The market for spot transactions is the most liquid market in the world. Transactions spot foreign exchange risk caused.
Forward foreign exchange transaction
Forward transactions are foreign exchange transactions on the date specified is longer than the spot date and not more than 1 year (but there are banks that transact more than 1 year) transaction Forward exchange rate and lead to interest rate risk, because of the forward rate is determined by the level of interest rates of two currencies, combined with the current spot rate.
Foreign exchange rate swap
Swap is a combination of spot and forward. The two parties conduct spot transactions in the spot rate and forward to the forward at the same rate to the principal amount and the same currency. The difference of the two rates reflects the difference between the interest rate of 2 currency transactions during that period. Raises interest rate swap risk.
Loans and deposits
Loans and deposits traded between banks (interbank money market) at a fixed rate for a certain period. Period of time varies from overnight to 5 years, but rarely deals with maturity> 1 year. Interest paid at maturity together with the payment of principal, unless the maturity> 1 year of interest payments made each year. Interbank money market used by banks to take positions in anticipation of interest rate movements. But many bank transactions due to the need to match the funding needed to maintain their liquidity positions. Loans and deposits lead to interest rate risk.
Bonds
Bonds are long-term debt that can dipindahtangan and published by the borrower (issuer) when receiving money from the investor (holder). Bond issuer must pay interest, usually in a regular, long term bonds and to pay principal at maturity.
'Vanilla' bond usually has a fixed interest rate called the 'coupon', which will dibayatkan on a predetermined date for a period of paid bonds and principal at maturity. The term vanilla is used to indicate bonds that have a standard feature. However, bonds may have financial incentives to attract investors vary.
Bond prices are influenced by interest rates and financial condition of the issuer. Rating agencies like Moody's and S & P yield grade which covers a broad credit risk from bonds, from AAA (issuer's ability to pay principal and interest is very strong) to D (there are arrears / default). Bond raises general interest rate risk and specific risk. Non-vanilla bonds will lead to other types of risks such as liquidity risk.
Equity trading
Equity trading is the buying and selling shares of a company on the stock exchanges around the world. Shareholders will receive a regular dividend, paid out of corporate profits and rising stock values. The stock price reflects the market perception of the value of the company and the value of the projection pendaptan. Stock prices if the market fluctuates to adjust the assessment of the company as a response to information received about the company. Position led to general equity shares risk and specific risk.
Commodity trading
Commodity trading is the buying and selling physical products that are traded on the secondary market. The products include: agricultural products, oil and precious metals. Products purchased and sold to be sent to a specified location on a predetermined date. There are spot and forward markets for many products and each product has additional features that are directly related to the physical nature of the product.
Examples of product-specific feature is the oil trade.
Besides crude oil, a product of refining crude oil traded on the market. Each product has its own market and price.
Location is very important to the buyer. Sebuat crude oil tankers in the U.S. has a different value to buyers in the USA than tankers in Malaysia due to differences in demand / supply balance in each State and the oil transportation costs between countries. .
Commodity position risk and caused commodity forward position raises interest
Cash instruments
Spot foreign exchange transactions
Spot transactions are foreign exchange transactions for the next 2 days or it is called date spot. 2-day period arising from interbank settlemen instructions to use the telegraph and the bank took 2 days to ensure that the instructions can be executed. The market for spot transactions is the most liquid market in the world. Transactions spot foreign exchange risk caused.
Forward foreign exchange transaction
Forward transactions are foreign exchange transactions on the date specified is longer than the spot date and not more than 1 year (but there are banks that transact more than 1 year) transaction Forward exchange rate and lead to interest rate risk, because of the forward rate is determined by the level of interest rates of two currencies, combined with the current spot rate.
Foreign exchange rate swap
Swap is a combination of spot and forward. The two parties conduct spot transactions in the spot rate and forward to the forward at the same rate to the principal amount and the same currency. The difference of the two rates reflects the difference between the interest rate of 2 currency transactions during that period. Raises interest rate swap risk.
Loans and deposits
Loans and deposits traded between banks (interbank money market) at a fixed rate for a certain period. Period of time varies from overnight to 5 years, but rarely deals with maturity> 1 year. Interest paid at maturity together with the payment of principal, unless the maturity> 1 year of interest payments made each year. Interbank money market used by banks to take positions in anticipation of interest rate movements. But many bank transactions due to the need to match the funding needed to maintain their liquidity positions. Loans and deposits lead to interest rate risk.
Bonds
Bonds are long-term debt that can dipindahtangan and published by the borrower (issuer) when receiving money from the investor (holder). Bond issuer must pay interest, usually in a regular, long term bonds and to pay principal at maturity.
'Vanilla' bond usually has a fixed interest rate called the 'coupon', which will dibayatkan on a predetermined date for a period of paid bonds and principal at maturity. The term vanilla is used to indicate bonds that have a standard feature. However, bonds may have financial incentives to attract investors vary.
Bond prices are influenced by interest rates and financial condition of the issuer. Rating agencies like Moody's and S & P yield grade which covers a broad credit risk from bonds, from AAA (issuer's ability to pay principal and interest is very strong) to D (there are arrears / default). Bond raises general interest rate risk and specific risk. Non-vanilla bonds will lead to other types of risks such as liquidity risk.
Equity trading
Equity trading is the buying and selling shares of a company on the stock exchanges around the world. Shareholders will receive a regular dividend, paid out of corporate profits and rising stock values. The stock price reflects the market perception of the value of the company and the value of the projection pendaptan. Stock prices if the market fluctuates to adjust the assessment of the company as a response to information received about the company. Position led to general equity shares risk and specific risk.
Commodity trading
Commodity trading is the buying and selling physical products that are traded on the secondary market. The products include: agricultural products, oil and precious metals. Products purchased and sold to be sent to a specified location on a predetermined date. There are spot and forward markets for many products and each product has additional features that are directly related to the physical nature of the product.
Examples of product-specific feature is the oil trade.
Besides crude oil, a product of refining crude oil traded on the market. Each product has its own market and price.
Location is very important to the buyer. Sebuat crude oil tankers in the U.S. has a different value to buyers in the USA than tankers in Malaysia due to differences in demand / supply balance in each State and the oil transportation costs between countries. .
Commodity position risk and caused commodity forward position raises interest
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