4. Contingent Claims

b. contrast forward commitments with contingent claims;

## c. define forward contracts, futures contracts, options (calls and puts), swaps, and credit derivatives and compare their basic characteristics;

What is a contingent claim? A contingent claim is a derivative contract with a payoff dependent on the occurrence of a future event. It can be either exchange-traded or over-the-counter.

What is an option? Options represent the right, not commitment, to buy or sell. They are created only by selling and buying. For every owner (buyer, option holder) of an option (who has all the rights), there is a seller (option writer) who has all the obligations. The seller receives payment (the premium) for an option from the buyer, and confers rights to the option buyer.

What is a convertible bond? Convertible bonds are bonds that can be exchanged for the stock of the issuing firm at a pre-agreed time and exchange ratio.

What are callable bonds? Callable bonds are redeemable by the issuer before the maturity under specific conditions and at a stated price. The issuer has an option to pay off the bonds before maturity.

What are warrants? Warrants are securities entitling the holder to buy a proportionate amount of stocks at some specified future date at a specified price. They are similar to call options.

What are exotic options? Exotic options are options that are more complex than basic put or call options. Exotic options trade over-the-counter.

What are interest rate options? Exotic options are options that are more complex than basic put or call options. Exotic options trade over-the-counter.

What are Options on futures? Options on futures are options whose underlying asset is a futures contract. They are all exchange-traded.

What are asset-backed securities? Asset-backed securities are securities that are collateralized by a pool of securities such as mortgages, loans or bonds.