Question

What models are most often used to value futures and future options?

What is the difference between future contracts and forward contracts?

What happens when a counterparty to a trade fails to complete the trade?

Answer 1

1) Some commonly used models to value options are Black-Scholes, binomial option pricing, and Monte-Carlo simulation.

2)

BASIS FOR COMPARISON FORWARD CONTRACT FUTURES CONTRACT Meaning Forward Contract is an agreement between parties to buy and sell the underlying asset at a specified date and agreed rate in future. A contract in which the parties agree to exchange the asset for cash at a fixed price and at a future specified date, is known as future contract. What is it? It is a tailor made contract. It is a standardized contract. Traded on Over the counter, i.e. there Organized stock exchange. is no secondary market. Settlement On maturity date. On a daily basis. Risk High Low Default No such probability As they are private agreement, the chances of default are relatively high. Size of contract Fixed Depends on the contract terms. Collateral Not required Initial margin required. Maturity Predetermined date As per the terms of contract. Regulation Self regulated By stock exchange Liquidity Low High

3) Option contracts (also applies to futures) on exchanges are required, legally, to at least put an option margin of 50% to cover some collateral. However, if things go as expected for the contract buyer and they execute the deal of the contract, how is the seller enforced to pay the rest of the collateral.