# Futures and Options Risk Distinguish contract mechanics and nonlinear exposures. Use this workbook alongside the course. Write your answers before opening the solutions. Practical work is self-reviewed; scored knowledge checks are in the Academy. ## 1. Futures ### Contract lifecycle A futures contract defines an underlying reference, multiplier, expiry and settlement process. Read the exact contract rather than treating a continuous chart as the instrument. Quantity and price units determine the cash exposure of each move. ### Settlement and delivery Futures exposure is marked under the applicable clearing and account arrangements. Adverse movement can create funding demands before a position is closed. An eventual favorable outcome does not eliminate the need to meet interim obligations. ### Basis Expiry can involve cash settlement or delivery-related procedures depending on the contract. Notice and last-trading dates can differ. A learner should identify the relevant dates and close or roll under a documented plan rather than discover obligations at expiry. ### Roll construction Basis is a defined difference between related prices, often futures and spot. State the sign convention, timestamps and instruments. A hedge can retain basis risk when the hedged exposure and contract do not move identically. ### Worked example A contract with multiplier ten moves five price units against two contracts. The linear gross loss is 100. A small initial margin deposit does not change this multiplication. ### Independent exercise Calculate the loss for three contracts, multiplier twenty and an adverse move of two. Identify two additional cash-flow considerations. My inputs and assumptions: My calculation or decision: Evidence that would change my conclusion: ## 2. Options ### Calls and puts A call gives its holder rights under the contract to buy or receive the specified settlement exposure; a put concerns selling or the corresponding settlement. Exercise style, underlying and settlement terms must be read rather than assumed. ### Payoff versus profit An option buyer pays premium; an option writer receives premium while accepting contractual obligations. Their risk profiles differ. Describing both as an options trade conceals who holds the right and who owes performance. ### Greeks Intrinsic value describes immediate exercise value under a simplified payoff view. Time value reflects other factors before expiry. An option can lose value even when the underlying moves in the anticipated direction if other pricing factors dominate. ### Implied volatility Price sensitivity is nonlinear. The change in an option's value depends on underlying price, volatility, time and other inputs. A fixed futures-style multiplier applied only to the underlying move is not a complete option valuation model. ### Worked example A call with strike 100 expires when the underlying settlement reference is 108. Its intrinsic payoff is 8 per unit under a simple cash-payoff example. If premium paid was 5, the expiry profit is 3 before costs. ### Independent exercise Calculate the same call's expiry profit when the settlement reference is 102, assuming premium 5 and multiplier one. My inputs and assumptions: My calculation or decision: Evidence that would change my conclusion: ## 3. Risk ### Assignment and exercise Separate price risk, volatility risk and liquidity risk when assessing derivatives. A position can appear protected under one dimension while remaining exposed to another. Scenario tables should vary more than the underlying price alone. ### Liquidity Margin and collateral rules can change under stress. A portfolio with limited expiry payoff loss can still require interim funding or face unfavorable liquidation. Operational affordability is not identical to the final payoff diagram. ### Scenario analysis Leverage and concentration can amplify a small market move relative to available capital. Aggregate related contracts and offsets cautiously, using the actual legal and account treatment. A theoretical hedge may not receive full margin recognition. ### Exposure aggregation A hedge objective should be explicit: which exposure, horizon and adverse event is being reduced? A hedge that changes unrelated risks or costs needs to be evaluated against the combined portfolio, not celebrated because one leg gained. ### Worked example A protective structure limits one expiry scenario but has a wide bid-ask spread and a near-term funding requirement. Its payoff diagram alone cannot show whether the learner can maintain or exit it affordably. ### Independent exercise List the information required beyond an expiry payoff chart before evaluating that structure's feasibility. My inputs and assumptions: My calculation or decision: Evidence that would change my conclusion: ## 4. Derivatives scenario workbook ### Expiry and exercise timeline Build an expiry timeline showing notice, last trading, exercise and settlement where applicable. Events can occur on different dates. A position-management plan should specify who checks them and what action occurs before a deadline. ### Nonlinear price and volatility shocks Apply combined shocks to underlying price, volatility and time rather than changing one input while assuming all others stay favorable. State the valuation method and recognize that model output is not a guaranteed executable quote. ### Margin and liquidity stress Stress margin and exit liquidity as well as mark-to-market value. A position that looks acceptable at normal spreads may be difficult to unwind during stress. Include the cost of closing all legs, not just the most liquid one. ### Separate a hedge objective from speculation Distinguish hedging from speculation by reference to the underlying exposure and objective. An option position added without a defined offset may be a new directional or volatility bet even if its name includes protection. ### Worked example A scenario shows a small theoretical portfolio loss but a large cash requirement before settlement. The learner cannot conclude that the position is affordable from the terminal loss alone. ### Independent exercise Prepare a scenario workbook with separate columns for valuation loss, required cash, exit cost and contractual deadlines. My inputs and assumptions: My calculation or decision: Evidence that would change my conclusion: ## Course project Model a futures roll and option payoff under stressed scenarios. ### Self-review rubric - Concepts and reasoning: 25% - Calculations, data and evidence: 30% - Process and risk controls: 25% - Limitations and communication: 20% Record one correction and one next practice task. This rubric is not automatically graded. ## Worked solutions ### Exercise 1 The gross loss is 120. Fees and margin/funding requirements are relevant additional considerations; currency conversion and execution can also matter. The calculation alone does not specify the timing of required payments. ### Exercise 2 Payoff is max(102−100,0)=2, so profit is −3 before costs. The underlying finishing above strike does not necessarily make the purchased call profitable after premium. ### Exercise 3 Include current valuation, spread and available size, exercise and settlement terms, interim margin, funding capacity, fees and the intended exit horizon. These determine implementation risks absent from a terminal payoff picture. ### Exercise 4 The columns should remain separate because they answer different questions. State assumptions beside each and flag unavailable data. Feasibility requires considering the timing and liquidity of obligations, not only eventual value. ## Further reading - https://www.cmegroup.com/education/courses/introduction-to-futures - https://www.investor.gov/introduction-investing