1. Lecture 7: Derivatives I: Currency and interest rate futures Galina A Schwartz Department of Finance Business School University of Michigan

2. Plan of today’s lecture n Chapter 11, Levich n Forward contract [and currency forward contract] n Future contract n Marking to market n Major players [& terminology]

3. Terminology n Forward interest rate= Forward rate agreement [FDA] Players: CME, CBOT, SIMEX, etc. n Term structure of interest rates n Levich, p. 377 Currency risk premium [Froot and Frankel] Error= risk premium+ forecast bias+ rational error

4. Currently: n Current trends: [A very rough view] Volatility up, down and the reasons? Term structure of interest rates Currency premium? How to reduce volatility? -- Improve efficiency -- Impose regulation

5. Summary n Forward and future contracts: -- similar instruments, -- but institutionally they differ -- historically behavior is similar n Who prefers which? The hedges [do not value liquidity] -- prefer forward contracts Small investors -- prefer future contracts n Important considerations: Regulation: pros and cons

6. What is next n Derivatives II, Chapter 12, Levich n Next Monday: lecture cancelled!! n Next Wed, November 22, 2000: a double lecture: [From 10am to 1:00pm]