Book Review: ‘Energy Derivatives: Pricing and Risk Management’ by Clewlow and Strickland, 2000 Anatoliy Swishchuk Math & Comp Lab Dept of Math & Stat, U of C ‘Lunch at the Lab’ Talk November 7 th, 2006
About the Authors: Clewlow, Les
About the Authors: Strickland, Chris
About the Authors: Kaminski, Vince
About the Authors: Kaminski, Vince
About the Authors: Masson, Grant
About the Authors: Chahal, Ronnie
Contents l l Preface 11 Chapters References: 125 Index
Chapter 1
Chapter 2
Chapter 3
Chapter 3 (cntd)
Chapter 4
Chapter 5
Chapter 6
Chapter 7
Chapter 8
Chapter 8 (cntd)
Chapter 9
Chapter 10
Chapter 11
Chapter 11 (cntd)
Chapter 1
Ch. 1 (1. 1. Intro to Energy Derivatives) l l A Derivative Security: security whose payoff depends on the value of other more basic variables Deregulation of energy markets: the need for risk management Energy derivatives-one of the fastest growing of all derivatives markets The simplest types of derivatives: forward and futures contracts
Ch. 1 (Forwards and Futures) l l l A Futures contract: agreement to buy or sell the underlying asset in the spot market (spot asset) at a predetermined time in the future for a certain price, which is agreed today. A Forward contract: agreement to transact on fixed terms at a future date, but these are direct between two parties. F=S exp [(c - y) (T-t)]
Ch. 1 (Options Contracts) l l l Two types: Call and Put Call Options: gives the holder the right, but not obligation, to buy the spot asset on or before the predetermined date (the maturity date) at a certain price (the strike price), which is agreed today. Differ from forward and futures: payment at the time the contract is entered into (option price)
Ch. 1 (Options Contracts II)
Ch. 1(1. 2. Fundamentals of Modelling and Pricing) l l F. Black, M. Scholes, R. Merton (1973)-BSM approach SDE (GBM)
Ch. 1 (1. 2. Fundamentals of Modelling and Pricing II) l l F. Black, M. Scholes, R. Merton (1973)-BSM approach PDE
Ch. 1 (1. 2. Fundamentals of Modelling and Pricing III) l l F. Black, M. Scholes, R. Merton (1973)-BSM approach Solution
Ch. 1 (1. 2. Fundamentals of Modelling and Pricing IV) l l l Merton (1973) P(T, t)-price at time t of a pure discount bond with maturity date T BSM formula
Ch. 1 (1. 3. Numerical Techniques) l l l Trinomial Tree Method (this book) Monte Carlo Simulation (this book) Finite difference schemes (another one) Numerical integration (-//-) Finite element methods (-//-)
Ch. 1 (1. 3. 1. The Trinomial Method) l l l Alternative to binomial model by Cox, Ross, Rubinstein (1979): continuous-time limit is the GBM Provide a better approximation to a continuous price process Easier to work with (more regular grid and more flexible)
Ch. 1 (1. 3. 1. The Trinomial Method II)
Ch. 1 (1. 3. 1. The Trinomial Method III)
Ch. 1 (1. 3. 1. The Trinomial Method IV)
Ch. 1 (1. 3. 1. The Trinomial Method V)
Ch. 1 (1. 3. 1. The Trinomial Method VI)
Ch. 1 (1. 3. 1. The Trinomial Method VII)
Ch. 1 (1. 3. 1. The Trinomial Method VIII) (The value of option)
Ch. 1 (1. 3. 1. The Trinomial Method IX) (‘backward induction’)
Ch. 1 (1. 3. 1. The Trinomial Method X) (The value of option)
Monte Carlo Simulation (MCS) l l MCS: estimation of the expectation of the discounted payoff of an option by computing the average of a large number of discounted payoff computed via simulation Felim Boyle (UW, 1977)-first applied MCS to the pricing of financial instruments
Monte Carlo Simulation (MCS) II
Monte Carlo Simulation (MCS) III
Monte Carlo Simulation (MCS): Criticisms l l The speed with which derivative values can be evaluated (treatment: variance reduction technique) Inability to handle American options (treatment: combination of tree and simulation)
Summary
The End l Thank You for Your Attention!
Next Talk: Chapter 2: Understanding and Analysing Spot Prices l l Speaker: Ouyang, Yuyuan (Lance) November 17, 2006, 12: 00 pm, MS 543
Distribution list of Chapters: l l l Ch 1, 3, 6 -Anatoliy Ch 2, 7 -Lance Ch 4, 8 -Matt Ch 5, 9 -Matthew Ch 10 -Xu Ch 11 -Greg
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