INTRODUCTION TO DERIVATIVES AND RISK
MANAGEMENT CONCEPT REVIEW GUIDE
2026 PRICING MODELS AND MARKET
APPLICATIONS
◉ Purpose of Derivatives. Answer: To transfer or reallocate risk
between participants; hedgers use derivatives to protect against
losses, while speculators use them to profit from price movements.
◉ Leverage. Answer: Small initial margin → large exposure to price
changes.
◉ Forward Contract. Answer: Customized agreement to buy/sell at a
future date and price; over-the-counter (OTC) and subject to
counterparty/default risk.
◉ Futures Contract. Answer: Standardized forward contract traded
on exchanges (e.g., CME, CBOT) that requires initial margin deposit
and daily marking-to-market.
◉ Long Position. Answer: Buying futures; profits if prices rise.
◉ Short Position. Answer: Selling futures; profits if prices fall.
, ◉ Call Option. Answer: Gives the holder the right to buy an
underlying asset at a set strike price before or at expiration; profits
when price ↑.
◉ Put Option. Answer: Gives the holder the right to sell an
underlying asset at a set strike price before or at expiration; profits
when price ↓.
◉ American Options. Answer: Options that are exercisable anytime.
◉ European Options. Answer: Options that are exercisable only at
maturity.
◉ Intrinsic Value (IV). Answer: Immediate profit if exercised.
◉ Time Value. Answer: Chance the option becomes profitable before
expiration.
◉ Option Premium. Answer: Price of an option, calculated as
Intrinsic Value + Time Value.
MANAGEMENT CONCEPT REVIEW GUIDE
2026 PRICING MODELS AND MARKET
APPLICATIONS
◉ Purpose of Derivatives. Answer: To transfer or reallocate risk
between participants; hedgers use derivatives to protect against
losses, while speculators use them to profit from price movements.
◉ Leverage. Answer: Small initial margin → large exposure to price
changes.
◉ Forward Contract. Answer: Customized agreement to buy/sell at a
future date and price; over-the-counter (OTC) and subject to
counterparty/default risk.
◉ Futures Contract. Answer: Standardized forward contract traded
on exchanges (e.g., CME, CBOT) that requires initial margin deposit
and daily marking-to-market.
◉ Long Position. Answer: Buying futures; profits if prices rise.
◉ Short Position. Answer: Selling futures; profits if prices fall.
, ◉ Call Option. Answer: Gives the holder the right to buy an
underlying asset at a set strike price before or at expiration; profits
when price ↑.
◉ Put Option. Answer: Gives the holder the right to sell an
underlying asset at a set strike price before or at expiration; profits
when price ↓.
◉ American Options. Answer: Options that are exercisable anytime.
◉ European Options. Answer: Options that are exercisable only at
maturity.
◉ Intrinsic Value (IV). Answer: Immediate profit if exercised.
◉ Time Value. Answer: Chance the option becomes profitable before
expiration.
◉ Option Premium. Answer: Price of an option, calculated as
Intrinsic Value + Time Value.
