C39SN2 Financial Derivatives Coursework Project

C39SN2 Financial Derivatives Coursework Project

Instructions/Descriptions

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C39SN2, Financial, Derivatives, Coursework, Project

You need to make submissions of two files for your coursework, in two separate links on Canvas:

A Word file of the full written project report.

This file should be named according to the following convention:

“C39SN_CW_Word_Group X’

where you replace ‘X’ with the group number you signed up to on Canvas.

This Word file should contain the following:

A cover page that contains the following information:

Title: ‘C39SN2 Coursework: Financial Derivatives Project’

Group number (the number of your group on the Canvas sign-up list)

Names or IDs of all group participants;

Word count

A filled-in and signed ‘Coursework Group Self-Assessment Form’ (included with the course package and obtainable from Canvas). You can fill this in, scan it or photograph it, and append the scan or photograph at the end of your Word file.

An Excel file of your Excel calculations. Name this file:

“C39SN_CW_Excel_Group X”

where you replace ‘X’ with your group number, as on the Canvas sign-up list. Make sure you do not forget to identify your group number in the file name

Coursework Description and Objectives

An index option is a financial derivative that gives the holder the right, but not the obligation, to buy (Call) or sell (Put) a basket of stocks (e.g., S&P 100 or FTSE 100) at an agreed-upon price (strike price) on a certain future date (European), or any time up to that date (American).

Index Options on US stock indices are traded at the Chicago Board Options Exchange (CBOE, see www.cboe.com).

This coursework is an investigation of the pricing of options on the S&P 100 index.

There are European-style and American-style options on the S&P100. CBOE identifies:

European-style S&P100 options with the symbol code: XEO, and

American-style S&P100 options with the symbol code: OEX.

The full contract specifications can be found at

https://www.cboe.com/tradable_products/sp_100/sp_100_options

Approach

(You need to read Chapter 4 of Chance and Brooks (Option Pricing: The Binomial Model) prior to attempting the coursework. Links to all websites relevant to this coursework are given below.)

This is a demanding and challenging numerical coursework. You are advised to start as early as possible, and follow these steps in order:

Read Chapter 4 of Chance and Brooks (Option Pricing: The Binomial Model).

Read the instructions below to understand the requirements.

Read the instructions again and extract a list of ALL the data that you need to download (from CBOE, Bloomberg and etfdb.com, see below). This data will consist of

Prices (option premiums), exercise prices and time to maturity of European and American call and put options on the S&P100 index (from CBOE);

the level and volatility of the S&P100 index or of NASDAQ 100 (from CBOE);

the dividend yield on the S&P100 index (from www.etfdb.com); and

interest rate data (from Bloomberg).

Note that you will need to download all this data within the same 15-minute interval, since CBOE’s website provides data with a 15-minute delay, and updates its data every 15 minutes. If you download different pieces of the data during different 15-minute intervals then the data will not match with each other.

Prior to downloading the data logon to the relevant websites, including the CBOE, and familiarise yourself with them, the option symbols (also explained below), and with the number of ‘mouse clicks’ that you need to perform in order to download the data. This will prepare you well to act fast enough to download all the data you require within the same 15-minute interval window.

Once the data is downloaded, you will need to do calculations based on this data and, therefore, will require extensive use of Excel. You will also need to repeat these calculations for different options, and hence automation of the calculations would help a lot. To automate the calculations, you are strongly advised to think carefully about the structure and organisation of your spreadsheet prior to implementation.

Assume a 365-day year throughout.

Main Requirement:

A report of 1500 to 2000 words in length (excluding figures, tables, references and appendix) that contains a response to the questions that feature under the two STEPS below. Your report should be stand alone and contain all what you want to show the reader and all what you are going to be assessed upon.

However, and for verification purposes (including the External Examiner as well as the identification of collusion or plagiarism) you are required to show how you performed the detailed calculations by submitting your Excel spreadsheet(s). The Excel sheet is to verify that you have done the calculations, but do not use it as a compliment to your Word report. Your Word report should be stand alone and should not refer the reader to the Excel sheet for further detail.

As noted above, there will be two separate submission links on Canvas: one for the Word file of the report, and one for the Excel Sheet. Please do not submit your Word report to the link for the Excel sheets, or vice versa, and make sure you name these files as instructed.

STEP 1

Step 1 Coursework Requirements

The requirements are:

Investigate (by calculating, checking and interpreting) whether the put-call parity holds for the actual market prices of both the European and the American options. Interpret the results (more emphasis and marks will be given to interpretation).

Calculate the difference between the actual market prices of the American and European options that have the same exercise price and maturity. Interpret the results (more emphasis and marks will be given to interpretation).

Calculate the theoretical Black and Scholes prices of all the selected European and American options and compare these theoretical values with the actual market prices of the options. Interpret any differences (more emphasis and marks will be given to the interpretation).

Guide to carrying out Step 1 Requirements

Downloading Option Data

(PLEASE access cboe during Chicago trading times – 8:30am to 3:15pm CET Chicago Time)

You will need to download prices and exercise prices for puts and calls. First read the section below and when you are ready to download the data login to the CBOE website www.cboe.com.

Downloading steps (see picture as a guide):

In www.cboe.com, click on ‘Data’ then ‘Quotes Dashboard’ and make sure you press the tab ‘Options’. The page should look like the picture above.

In the entry panel next to ‘Search’ enter the symbol OEX for American options or XEO for European options, and press ‘Search’.

There are two main ways to download the data. The first is to download all the data they have on OEX or XEO options by using the ‘View Chain’ green button on the same page. At the bottom of the table you will be able to see a ‘Download CSV’ link that will download the entire table into an Excel readable file. The second method of downloading parts of the data for specific options only is to use the filters that appear in a ribbon to the left of the ‘View Chain’ button. You can choose the appropriate filer settings. For example, you can choose to select options of a certain volume, expiration type, option range (ITM, ATM or OTM), size, or expiration date. It is probably best to just download all options using ‘View Chain’ and then choose whichever ones you want to do the analysis on. But the filters are useful to investigate and to download ITM, ATM or OTM active options (see further instructions below on how and what options to choose).

You need to follow the above more than once: once to extract a table of OEX options, another to extract the same for XEO options, and yet again to extract the level of volatility of the S&P 100 index (by entering the symbol VXO or ^VXN in the Search button – see instructions below).

Once you have all the data in Excel you can then pick and choose the options that you want to focus on in the analyses (specific exercise prices and preferably options that have some volume or open interest – here you can use the filters to help you narrow down this choice). Choose your options by using the matrix in the table below (under Choice of Options for Analysis ), which is not prescriptive but provided as a guide only.

Note that beside prices, you need to note the time you downloaded the data, in order to calculate the time left to maturity for these options, and the level of the S&P 100 index (i.e., the spot price of the index) at the time of your downloading the options data. These last two pieces of information appear towards the top of the table anyway, so it is good practice to copy the entire table together with the information that appears at the top of it, which also includes the value of the S&P100 index (spot price) at the time.

Choice of Options for Analysis

You need to consider pairs of put and call options. Each pair should have the same (or close) strike price and maturity. You need pairs of American-style (OEX) and pairs of European-style (XEO) options. For each exercise style choose at least three pairs: one in-the-money (ITM), one at-the-money (ATM), and one out-of-the-money (OTM). Do this such that American and European pairs that are at-the-money have the same (or close) time to maturity and exercise price. Do the same for in-the-money and out-of-the-money options. You should end up with a choice of options that roughly fit the description of the table below.

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