In preparation for our tutorials on Financial Products and Markets, my colleague Harsh just uploaded thirteen new learning spreadsheets to the member page. These cover many of the concepts in the assigned John Hull:
3.a.1 Arbitrage: illustrates cash-and-carry and reverse-cash-and-carry arbitrage if forward is mis-priced
3.a.2 Daily margin: Duplicates margin mechanics of Hull's Table 2.1 (i.e., maintenance margin, variation margin). Worth looking at. The margin call is a difference from the forward contract, and the volatility of this "excess" margin cash creates the pricing difference between a future and a forward (convexity bias)
3.a.3 Basis risk: Illustration of *unexpected* weakening and strengthening of the basis. Easy to gloss over, but please don't because it's maybe a little harder than it looks at first glance.
3.a.4. Minimum variance hedge ratio: duplicates Hull's cross-hedge (3.4 page 55). The regression of change in futures price against change in spot price produces minimum variance hedge ratio which is equal to the slope of the OLS line.
3.a.5. Compound frequency conversion practice. Convert discrete to continuous, and vice-versa.
3.a.6. Forward rates. Essential! Given three inputs (par, coupon and spot curve), shows forward rates. The idea is just as important as the numbers: we want to see that no-arbitrage allows us to extract a forward curve from a spot curve.
3.a.7. Hull's (simple) bond duration. We need to know this. More detail in Tuckman, but this is maybe a gentler introduction (notice that under continuous compounding, Macaulay and modified duration are the same)
3.a.8. Universal cost-of-carry (newly revised for better usability!): I put eight examples into the same structure to illustrate the cost-of-carry.
3.a.9. An interest rate futures "care package" linked to Hull Chapter 6. Several sheets: T-bill Discount Rate, Dirty Price, Pricing T-bond Futures, Eurodollar futures, Convexity Adjustment
3.a.10. Cheapest-to-deliver (CTD) bond. The CTD calculations are easier and more important; but the conversion factor (CF) itself will take study time. Historically I am not sure it has been tested but we do have an AIM/learning outcome ("Explain and calculate a US Treasury bond futures contract conversion factor”)
3.a.11. Four swap valuations: interest rate (as two bonds, as FRA) and currency swap (as bonds, as FRA)
3.a.12. Put-call-parity (again, freshly revised for better clarity This concept is so important, this is my cleanest summary sheet)
3.a.13. Option trading strategies (brand new). This allows you to interactively view the trading strategies in Hull. Given the assumptions (stock, volatility, riskless rate), you only need to "simulate" trades by selecting (in yellow): i. the strike price, 0/1 for put/call, 0/1 for short/long, and the maturity. The workbook has several sheets, almost all of the strategies are illustrated, you can see how the payoffs are calculated.
3.a.1 Arbitrage: illustrates cash-and-carry and reverse-cash-and-carry arbitrage if forward is mis-priced
3.a.2 Daily margin: Duplicates margin mechanics of Hull's Table 2.1 (i.e., maintenance margin, variation margin). Worth looking at. The margin call is a difference from the forward contract, and the volatility of this "excess" margin cash creates the pricing difference between a future and a forward (convexity bias)
3.a.3 Basis risk: Illustration of *unexpected* weakening and strengthening of the basis. Easy to gloss over, but please don't because it's maybe a little harder than it looks at first glance.
3.a.4. Minimum variance hedge ratio: duplicates Hull's cross-hedge (3.4 page 55). The regression of change in futures price against change in spot price produces minimum variance hedge ratio which is equal to the slope of the OLS line.
3.a.5. Compound frequency conversion practice. Convert discrete to continuous, and vice-versa.
3.a.6. Forward rates. Essential! Given three inputs (par, coupon and spot curve), shows forward rates. The idea is just as important as the numbers: we want to see that no-arbitrage allows us to extract a forward curve from a spot curve.
3.a.7. Hull's (simple) bond duration. We need to know this. More detail in Tuckman, but this is maybe a gentler introduction (notice that under continuous compounding, Macaulay and modified duration are the same)
3.a.8. Universal cost-of-carry (newly revised for better usability!): I put eight examples into the same structure to illustrate the cost-of-carry.
3.a.9. An interest rate futures "care package" linked to Hull Chapter 6. Several sheets: T-bill Discount Rate, Dirty Price, Pricing T-bond Futures, Eurodollar futures, Convexity Adjustment
3.a.10. Cheapest-to-deliver (CTD) bond. The CTD calculations are easier and more important; but the conversion factor (CF) itself will take study time. Historically I am not sure it has been tested but we do have an AIM/learning outcome ("Explain and calculate a US Treasury bond futures contract conversion factor”)
3.a.11. Four swap valuations: interest rate (as two bonds, as FRA) and currency swap (as bonds, as FRA)
3.a.12. Put-call-parity (again, freshly revised for better clarity This concept is so important, this is my cleanest summary sheet)
3.a.13. Option trading strategies (brand new). This allows you to interactively view the trading strategies in Hull. Given the assumptions (stock, volatility, riskless rate), you only need to "simulate" trades by selecting (in yellow): i. the strike price, 0/1 for put/call, 0/1 for short/long, and the maturity. The workbook has several sheets, almost all of the strategies are illustrated, you can see how the payoffs are calculated.
