Financial Instruments EXTENT February 2011

Financial Instruments

Alyona Lamash

EXTENT February 2011

Contents

1. Introduction to Financial Instruments and Markets

2. Types of Financial Markets

3. Exchange vs. OTC

4. Futures

5. Options

6. Hedge vs. Insurance

7. Bonds

8. Swaps

9. Q&A

1. Introduction

Financial markets are complex, because we can trade something that does not really exist:

• does not exist on paper (stocks, debt) - e.g. Russian

trading started with electronic systems from the very

beginning, while older systems - in Europe and in the

US - may still physically move papers (obligations)

from one shelf in Depositary to another)

• does not exist as a share of a company - just an

obligation (debt)

• does not represent an asset, but is dependent on the

price of the underlying asset

2. Types of Markets

•Equity (Shares of Stock)

•Debt (Bond)

•Commodity (Crude Oil, Metal, Agriculture)

•FOREX

•Interest Rate

3. Exchange vs OTC

•Exchange-traded Instruments

•OTC

4. Futures

Forward/Futures - the obligation to buy/sell a

specified asset at a specified price at a specified

point in the future

• Strike price

• Maturity

5. Option

Option - the right to buy/sell an asset at a specified

price.

• Strike price

• Maturity

• Option type: Call or Put

• Exercise type: European, American and Bermudan

• Option premium

6. Hedge vs Insurance

The cost of hedge – the level of profit is locked,

favourable and unfavourable moves of market lead

to similar results

The cost of insurance – premium

7. Bond

Fixed Income – the borrower has the obligation to pay

the lender the interest (“Coupons”) on the

borrowed amount (“Principal” or “Notional”, or

sometimes “Face Amount”) during the term of the

bond, and repay the Principal at maturity (also

known as “Redemption Date”).

Fixed-coupon bond, floating-rate bond, zero-coupon

bond (discounted bond)

Callable, puttable and... convertible!

7. Bonds (continued): Fixed Rate and Floating Rate Payments

5Y 4 ½, annual payments

5Y 6MEURIBOR, annual payments

8. Swap

Plain Vanilla Interest Rate Swap – fixed rate

interest payments vs. floating rate interest payments,

at predefined times in the future, until maturity

Basis Swap – 3MEURIBOR interest payments vs.

1YEURIBOR interest payments, at predefined times in

the future, until maturity

Currency Swap – interest payments in one currency

are exchanged to interest payments in another

currency, Notional Amounts are exchanged at the end

of the swap.

Questions & Answers

Thank you.