Term

Definition

Accrued Interest

The interest earned on a bond since the last coupon payment date.

American Option

An option that can be exercised at any time during its life.

Arbitrage

A trading strategy the takes advantage of two or more securities being mispriced relative to each other.

Asian Option

An option with a payoff dependent on the average price of the underlying asset during a specified period.

Ask Price

The price that a dealer is offering to sell an asset

Asset-or-nothing Call Option

An option that provides a payoff equal to the asset price if the asset price is above the strike price and zero otherwise.

Asset-or-nothing Put Option

An option that provides a payoff equal to the asset price if the asset price is below the strike price and zero otherwise.

Asset-or-nothing Barrier Option

Option that either pay out the value of the asset or nothing, depending on whether the asset price has hit the barrier or not.

At-the-money Option

An option in which the strike price equals the underlying asset price.

Barrier Option

An option whose payoff depends on whether the path of the underlying asset has reached a predetermined barrier level.

Barrier Option Types

•Down and In - An option which comes into existence and knocked-in only if the asset price falls to the barrier level.

•Down and Out - An option which comes into existence and knocked-out only if the asset price falls to the barrier level.

•Up and In - An option which comes into existence and knocked-in only if the asset price rises to the barrier level.

•Up and Out - An option which comes into existence and knocked-out only if the asset price rises to the barrier level.

Barrier Monitoring

Please see Sample Frequency Below.

Basis

The difference between the spot price and the futures price of a commodity

Basis Point

When used to describe an interest rate, a basis point is one hundredth of one percent (.01%).

Bear Spread

A short position in a put option with a strike price X1, combined with a long position in a put option with a strike price X2 where X2 > X1. For a call option, a long position in a call option with a strike price X1, combined with a short position in a call option with a strike price of X2 where X1 > X2.

Binary Option

An option with a discontinuous payoff; for example, an asset-or-nothing option or a cash-or-nothing option.

Binomial Model

A model where the price of an asset is monitored over successive short-periods of time. In each short period only two price movements are possible.

Binomial Tree

A tree that represents how an asset price can evolve under the binomial model.

Black's Model

An extension of the Black-Scholes model for valuing European options on futures contracts.

Black-Scholes Model

A model for pricing European options on stocks, developed by Fischer Black, Myron Scholes, and Robert Merton.

Bond Duration

The weighted average time until cash flows are received measured in years.

Bond Modified Duration

The rate of change or price sensitivity which is the percentage rate of change of price with respect to yield.

Bond Option

An option where a bond is the underlying asset.

Bond Price

The fair price of the bond which is the present value of the cash flow stream it is expected to generate.

Bull Spread

A long position in a call option with a strike price X1, combined with a short position in a call option with a strike price X2, where X2 > X1. For a put option, a short position in a put option with a strike price X1, combined with a long position in a put option with a strike price X2 where X1 > X2.

Butterfly Spread

A position that is created by taking a long position in a call option with a strike price X1, a long position in a call option with a strike price X3, and a short position in two call options with a strike price X2, where X3 > X2 > X1 and X2 is half way between X1 and X3. For a put option, a position is created by taking a long position in a put option with a strike price X1, a long position in a put option with a strike price X3, and a short position in two put options with a strike price X2, where X1 > X2 > X3 and X2 is half way between X1 and X3.

Calendar Spreads

A position that is created by selling a call option with a certain strike price and buying a call option with the same strike price but a longer expiration date. For put options, a position that is created by buying a long maturity put option and selling a short maturity put option.

Call Option

An option to buy an asset (underlying) or security at a fixed strike price (exercise) by a certain date.

Cash-or-nothing Call Option

An option that provides a fixed predetermined payoff if the final asset price is above the strike price and zero otherwise.

Cash-or-nothing Put Option

An option that provides a fixed predetermined payoff if the final asset price is below the strike price and zero otherwise.

Cash Price

The Cash or Dirty price of the Bond.

Compound Option

An option on an option.

Compounding Rate Type

•Continuous = 0 or "C" (case insensitive)

•Daily = 1 or "D" (case insensitive)

•Monthly = 2 or "M" (case insensitive)

•BiMonthly = 3 or "B" (case insensitive)

•Quarterly = 4 or "Q" (case insensitive)

•TriAnnually = 5 or "T" (case insensitive)

•SemiAnnually = 6 or "S" (case insensitive)

•Annually = 7 or "A" (case insensitive)

•LIBOR = 8 or "L" (case insensitive)

•BankDiscountRate = 9 or "BD" (case insensitive)

•BondEquivelantYield = 10 or "E" (case insensitive)

•TermRate = 11 or "R" (case insensitive)

Continuous Compounding

It is the limit as the assumed compounding interval is made smaller and smaller.

Control Variate Technique

Technique used with the Binomial method that takes the sum of the American Binomial value and the European Black-Scholes value and subtracts the European Binomial value from it.

Cost of Carry

The storage cost plus the cost of financing an asset minus the income earned on the asset. Cost of Carry = Interest Rate - Yield Rate.

Coupon Frequency

•MonthlyCoupon = 0 or "m" (case insensitive)

•QuarterlyCoupon = 1 or "q" (case insensitive)

•SemiAnualCoupon = 2 or "s" (case insensitive)

•AnualCoupon = 3 or "a" (case insensitive)

Cubic Spline Interpolation

Interpolation where the interpolant is a special type of piecewise polynomial called a spline. The interpolation error can be made small even when using low degree polynomials for the spline, thus making it preferred over polynomial interpolation.

Delta

The delta is the rate of change in the price of the option value with respect to the price of the Asset. It measures the sensitivity of an option's price to changes in the Asset. It is the first derivative of the option model with respect to the Asset. It is also referred to as sensitivity.

Dividend

A cash payment made to the owner of a stock.

Dividend Yield

The dividend as a percentage of the stock price.

Early Exercise

An exercise prior to the maturity date.

European Option

An option that can be exercised only at its expiration date

Expiration Date

The end of life of an option contract.

Foreign Currency Option

An option on a foreign exchange rate.

Forward Start Option

An option designed so that it will be at-the-money at some time in the future.

Gamma

The gamma measures the sensitivity of the options delta with respect to changes in the Asset. It is the second derivative of the change in option price with respect to the change in the price of the Asset.

Implied Correlation

Implied Correlation is the value of the correlation coefficient that is implied given the value of the MarketPrice of the option.

Implied Volatility

Implied Strike is the value of the strike price variable that is implied given the value of the MarketPrice of the option.

Implied Volatility

The value of the volatility variable that is implied given the value of the Market Price of the option.

In-the-money Option

Either a call option where the asset price is greater than the strike price or a put option where the asset price is less than the strike price.

Intrinsic Value

The intrinsic value of an option is the maximum of zero and the value it would have if it were exercised immediately. For a call option, the intrinsic value is max(Asset - Strike, 0). For a put option, the intrinsic value is max(Strike - Asset, 0).

Knock-In Barrier Option

This option comes into existence and knocked-in only if the asset price reaches the barrier level.

Knock-Out Barrier Option

This option ceases to exist and knocked-out when the asset price reaches the barrier level.

Lambda

The percent change in option value given a one- percent change in the underlying asset value. Note that the value derived for Lambda from the function is a percent and not an absolute amount.

Monte Carlo Simulation

A procedure for randomly sampling changes in market variables in order to value a derivative.

Sample Frequency

•ContinuousSample = 0 or "C" (case insensitive)

•Hourly = 1 or "H" (case insensitive)

•Daily252 = 2 or "DT" (case insensitive)

•Daily365 = 3 or "DC" (case insensitive)

•WeeklySample = 4 or "W" (case insensitive)

•MonthlySample = 5 or "M" (case insensitive)

•BiMonthlySample = 6 or "B" (case insensitive)

•QuarterlySample = 7 or "Q" (case insensitive)

•SemiAnnual = 8 or "S" (case insensitive)

•Annual = 9 or "A" (case insensitive)

Open Interest

The total number of long positions outstanding in a futures contract.

Out-of-the-money Option

Either (a) a call option where the asset price is less than the strike price or (b) a put option where the asset price is greater than the strike price.

Path-dependent Option

An option whose payoff depends on the whole path followed by the underlying variable-not just the final value.

Payer Swaption

A payer swaption gives the owner of the swaption the right to enter into a swap where they pay the fixed leg and receive the floating leg.

Put Option

An option to sell an asset (underlying) or security at a fixed strike price (exercise) by a certain date.

Psi

The rate of change of the option value with respect to a small change in the yield rate. It is the first derivative with respect to the yield rate divided by 100.

Quanto

A derivative where the payoff is defined by variables associated with one currency but is paid in another currency.

Receiver Swaption

A receiver swaption gives the owner of the swaption the right to enter into a swap in which they will receive the fixed leg, and pay the floating leg.

Rho

The Rho value is the rate of change of the option value with respect to a small change in the risk free interest rate. It is the first derivative with respect to the interest rate divided by 100.

Straddle

A long position in a call option and a put option with the same strike price.

Strangle

A long position in a call option and a put option with different strike prices, where the call strike is higher than the put strike.

Strap

A long position in two call options and one put option with the same strike price.

Strike Sensitivity

The rate of change in the option value with respect to a small change in the Strike. It is the first derivative with respect to the Strike (exercise price).

Strip

A long position in one call option and two put options with the same strike price.

Theta

The theta of an option is the rate of change in the value of the option value with respect to time. It is also referred to as time decay. The theta value is the first derivative with respect to time (divided by 365 to convert it to per day).

Theoretical Value

The value generated by a mathematical model given certain prior assumptions about the terms of the option, the characteristics of the underlying contract, and prevailing interest rates.

Time Value

The Time Value of an option is the option price minus the intrinsic value.

Two-Asset Cash or Nothing Down-Up

A two-asset cash-or-nothing down-up pays out a fixed cash amount if Asset1, is below Strike1 and Asset2, is above Strike2 at expiration.

Two-Asset Cash or Nothing Up-Down

A two-asset cash-or-nothing up-down pays out a fixed cash amount if Asset1, is above Strike1 and Asset2, is below Strike2 at expiration.

Vega

The Vega is the rate of change of the value of the option with respect to the volatility of the underlying asset. The Vega value is the first derivative with respect to the volatility divided by 100.

Volatility

The standard deviation of the return on the asset in a short length of time. The volatility per annum can be calculated from the volatility per trading day using the formula: