Panicked by derivatives?!

Hi Guys,

Just wondering if anyone else is feeling completely daunted by the derivatives topics and the amount of formulas that we must remember? How much time have you spent on this topic? Am worried it will take me too long and eat into time I need to spend on other topics…

and to those who have done derivatives… how much is similar with level 1. the topics look the same but content looks different?

what is the difficulty of derivative with the rest of topics in l2

To the OP: Given you passed lvl 1 derivatives, and adjusting for errata, derivatives isn’t too long. Its complex regard to valuation, but referring to Schweser after you’ve gone thru CFAI should lock in everything.

Pierrewoodman: Not to be a dick, but out of your 148 posts, half of your posts deal with either prejudicial comments towards Indians or comparisons between topics and level 1/2. Considering everyone has a different educational/work background, difficulty in a topic is all relative. Are you not going to crack open the book if I told you derivatives is a cakewalk?

im going thru the curriculum serially… havent reached dv

thx daily grind for recommending both CFAI and Schweser… still feel daunted though, so guess its the case of powering on…

Derivatives’ valuation is based purely on logic. If you understand the material you do not have to remember much! I found that one of the most straight-forward sections. (much unlike FRA and Eco). For example, in the forwards/ futures section the treatment for benefits, storage costs, coupons, dividends etc is the same!

I would suggest a slow reading over the material until you are sure that you understand everything clearly, combined with EOC. Be sure that you try to replicate all formulas and not just recall them from memory. Then you won’t have a problem!! (plus schweser’s done indeed a good job on the subject.)

Best of luck!

Only did futures and forwards at this point, and indeed, like Charis said, they are very similar and above that, very logical in terms of valuation as well.

If you don’t understand by reading (I tend to lose attention when seeing a lot of formulas), try watching a video. I use Elan and they take a step-by-step approach, going very slowly in the beginning. Once I got the hang of it, I didn’t even need to finish the video as it’s quite straightforward once you see it.

Fi readi9ng 44 is so much like derivatives

I wasn’t too troubled by derivatives. I was pretty lost in valuing bonds with embedded options though.

I was finding derivatives really difficult until I cracked open the Schweser notes, and now it seems much more straightforward than I originally thought. Did anyone else find the CFAI book on derivatives to be a bit confusing? I’m considering reading only Schweser + blue box question + EOC questions for this section and skipping the CFAI explanations. Thoughts?

Is anyone using only the Schweser text?

lol. Winning post.

useful post.

Ah, I just saw this now.

no big deal once you crammer the formulas…

Once you get a basic understanding of the underlying principles for pricing and valuing derivatives, most of the formulae are pretty straightforward, and you’ll find that it isn’t as daunting as you thought it was.

Pricing a forward, future, or swap is simply a matter of applying arbitrage. For forwards and futures, it’s cash-and-carry; for swaps it’s PV(leg 1) = PV(leg 2). For swaps, if you treat the two legs as two bonds that are traded, its easy because you know how to find the PV (i.e., price) of a bond.

Option pricing is just a matter of applying an appropriate model (such as BSM), and you don’t have to do that on the exam. Whew!

Valuing a forward, future, or swap is simply a matter of calculating the PV of each component and adding them up (using + for long and - for short). For forwards and futures, it’s (St - PV(F)) for the long position, and (PV(F) - St) for the short position (with one exception). For swaps it’s PV(received) - PV(paid). (The exception for forwards and futures is for currency, where it appears that you’re discounting today’s spot rate. That formula is never explained; I can run through it if you like so you can understand what’s going on.)

Valuing an option is no different than pricing an option (so you don’t even see “valuing an option” in the curriculum); you don’t have to do that on the exam. Whew!

Apart from that, you have to remember the Greeks for bonds, and they’re all pretty simple. (Remembering rho isn’t intuitive, but you can get it easily from the put-call parity equation.)

Seriously: Level II derivatives isn’t much harder than Level I derivatives and fixed income combined (with a smidge of econ: interest rate parity); you just have to think about the relationships. I teach this all the time, and always have candidates say, after class, “That’s a lot easier than I thought it was.” You can say the same thing.

Sorry Magician, you got me confused, do you mean we wont have to calculate call/put prices either with discrete or continuous models? what is required to know for the option chapter of the curriculum? I think Options chapter is too long in the curriculum but not to much to grasp.

Thx! good luck!

My mistake: you may have to calculate an option price from a 1-period or 2-period binomial model, but not from BSM. I was thinking only about BSM.


Thx a lot! :slight_smile:

Felt the same way in my first pass. Nailed it on my second pass. Give some good time to this topic … not one of the topics where one can rush pass. Suggest to do QBank after every reading for clear understanding.

How did you reach that conclusion? Are the CFAI rainmakers going to grace us with some assertive generosity, come exam day?