Practical Application of FX options

Day One

Review of the Fundamentals of FX Options and Products

Components of foreign exchange risk: forwards,Swaps and vanilla options

FX options market: who does what and why

Software, in particular Reuters Dealing and SuperDerivatives

Pricing and Hedging in the Black-Scholes model

Black-Scholes / Merton model in FX

Derivation of the value of a call and put option

Detailed discussion of the formula

Greeks: delta, gamma, theta, rho, vega, vanna, volga, homogeneity and relationships among Greeks

Vanilla Options

Quotation conventions in FX

Dates: trade day, premium payment day, exercise/expiration time, settlement day

Settlement, spreads, deal processing, counterparty risk

Exotic features: deferred payment, contingent payment, deferred delivery, cash-settlement,

American and Bermudan exercise rights, cut-offs and fixings

Volatility

Implied vs. historic

Quotation in terms of deltas

Volatility cones

Volatility smile: term-structure, skew, risk reversals and butterflies

Volatility sources

Interpolation and extrapolation across the volatility smile surface

Forward volatility

Workshop: Greeks in terms of deltas, hedging volatility risk, deriving the strike from the delta with smile

First Generation Exotics:

Products, Pricing and Hedging Digital options: European and American style, single and double barrier

Barrier options: single and double, knock-in and knock-out

Compound and instalment

Asian options: options on the geometric, arithmetic and harmonic mean Power, look back

Day Two

Structuring with Vanilla

Options Risk reversal and participating forward

Spreads and seagulls

Straddles, strangles and butterflies Digital options

Workshop: rolling series of seagulls

Applications in Structuring

Dual currency and other FX-linked deposits

Case study: unwinding a DCD

Structured forwards: shark forward, bonus forward, range-reset forward, etc.

FX-linked cross currency swaps

Exotic spot and forward trades

Workshop: structuring exercises

The Traders' Rules of Thumb

How higher order derivatives influence the price

Vanna-volga pricing approach

Case study: one-touch

Discussion of model risk and alternatives: stochastic volatility

- Accounting for swaps using accruals and mark-to market

- Counterparty credit risk and capital allocation for FX swaps

- After the trade: Shows how trades are booked, confirmed and settled Workshop: pricing