Course co-ordinator(s): Dr Timothy C Johnson (Edinburgh).
This course introduces students to advanced topics in derivatives, developing on the material in the CT8 syllabus.
Course Description: Link to Official Course Descriptor.
This course developes the students understanding of derivatives by extending their comprehension of
- Stochastic Calculus applied to financial markets
- Exotic options and derivative portfolios
- Stochastic Volatility
- Numerical methods
- Modelling the Term Structure of Interest Rates
- Structured Derivatives and Synthetic Securities
This course covers some of the material in Subject ST6 of the Institute/Faculty of Actuaries examinations and, for the MSc in Actuarial Management, is synoptic with Derivative Markets (F71DM).
Learning Outcomes: Subject Mastery
At the end of studying this course, students will understand
Ito calculus, Ito’s formula, statement of the Cameron-Martin-Girsanov Theorem, the concept of the Radon-Nikodym derivative, the Martingale Representation Theorem
Self-financing portfolios in continuous time and the construction of replicating strategies using the martingale approach
OU and Feller processes and derivation of BSM PDE
The role of the market price of risk in the transfer between the real-world and the risk-neutral probability measures
Hedging derivatives and the Greeks in continuous time models and to stuctures
Description of exotic options (including Quanto, Chooser, Barrier, Binary, Lookback Asian, Exchange, Basket options)
Management of derivative portfolios of using scenario analysis.
Risk management characteristics of certain exotic products
The role of the volatility parameter in the valuation of options
Estimation of volatility from market data
The “smile” effect and volatility surfaces
Finite differences and lattices
Monte Carlo techniques
Least-Squares (Longstaff-Schwartz) approach for Ameican options
The Black, Hull & White Vasicek and Cox-Ingersoll-Ross models (Ho & Lee, Black, Derman & Toy, Black & Karasinski)
Libor Market Models
Implementation and calibration of models
Products for hedging non-financial risks
CDOs and CDSs
Learning Outcomes: Personal Abilities
- Show an appreciation of the interface between academic theory and industrial practice
- Demonstrate the ability to learn independently and as part of a group
- Demonstrate knowledge of computational issues
- Manage time, work to deadlines and prioritise workloads
- Present results in a way that demonstrates that they have understood the technical and broader issues of derivative pricing
- Show an appreciation of the role of derivative markets in the management of a variety of risks
Due to the breadth of the material there is no specific recommended text, however as the course follows the ST6 syllabus students are advised to refer to the Core Reading for ST6 (supplied). The recommended reading for ST6 is:
- Hull, J., (2000) Options, futures and other derivative securities, Prentice Hall;
2 hour end-of-year examination (80%), course work (20%).
SCQF Level: 10, 11.
Help: If you have any problems or questions regarding the course, you are encouraged to contact the lecturer
VISION: further information and course materials are available on VISION