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Derivatives Markets 3rd Edition by Robert L. McDonald (eBook PDF) | Textbooks



Introduction




Derivatives markets are one of the most dynamic and complex segments of the global financial system. They allow participants to trade, hedge, speculate, and arbitrage on various underlying assets, such as stocks, bonds, commodities, currencies, interest rates, and more. Derivatives markets have grown exponentially in size, scope, and sophistication over the past few decades, creating both opportunities and challenges for market participants, regulators, and policymakers.




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One of the leading experts and authors on derivatives markets is Robert L. McDonald, a professor of finance at the Kellogg School of Management at Northwestern University. He has written several books and articles on derivatives, corporate finance, and financial economics. His most popular book is Derivatives Markets, which is now in its third edition and has been adopted by many universities and institutions around the world as a textbook for courses on options, futures, and other derivatives.


Derivatives Markets provides a comprehensive and in-depth treatment of derivatives concepts and instruments in a mathematically accessible and intuitive manner. It covers both the theoretical foundations and the practical applications of derivatives in various contexts and scenarios. It also discusses the current issues and challenges facing the derivatives markets, such as regulation, reform, innovation, and risk management.


If you are interested in learning more about derivatives markets from Robert L. McDonald's perspective, you might want to download the PDF version of his book for free. There are several websites that offer this service, but you have to be careful about their quality, reliability, and legality. In this article, we will show you how to find and download Derivatives Markets by Robert L. McDonald in PDF format for free from a reputable source.


Derivatives Markets: Concepts and Instruments




Before we dive into the details of how to download Derivatives Markets by Robert L. McDonald in PDF format for free, let's first review some of the basic concepts and instruments that are covered in his book. This will help you understand what you can expect to learn from reading it.


A derivative is a financial contract that derives its value from an underlying asset or variable. The most common types of derivatives are options, futures, forwards, swaps, and warrants. Each type of derivative has its own characteristics, features, advantages, and disadvantages.


An option is a contract that gives the buyer (holder) the right, but not the obligation, to buy or sell an underlying asset at a specified price (strike) on or before a specified date (expiration). The seller (writer) of an option receives a fee (premium) for taking on the obligation to deliver or receive the underlying asset if the option is exercised by the buyer. Options can be classified into two types: call options and put options. A call option gives the buyer the right to buy the underlying asset, while a put option gives the buyer the right to sell the underlying asset.


A future is a contract that obligates the buyer (long) and the seller (short) to exchange an underlying asset at a specified price (futures price) on a specified date (delivery date). Futures contracts are standardized and traded on organized exchanges, such as the Chicago Mercantile Exchange (CME) or the New York Mercantile Exchange (NYMEX). Futures contracts can be settled either by physical delivery of the underlying asset or by cash settlement, depending on the contract specifications.


A forward is a contract that obligates the buyer (long) and the seller (short) to exchange an underlying asset at a specified price (forward price) on a specified date (delivery date). Forward contracts are customized and traded over-the-counter (OTC), meaning that they are negotiated directly between two parties without intermediaries. Forward contracts are usually settled by physical delivery of the underlying asset, but they can also be settled by cash settlement, depending on the agreement between the parties.


A swap is a contract that involves the exchange of cash flows between two parties based on an underlying asset or variable. The most common types of swaps are interest rate swaps, currency swaps, and commodity swaps. In an interest rate swap, one party agrees to pay a fixed interest rate on a notional principal amount, while the other party agrees to pay a floating interest rate on the same notional principal amount. In a currency swap, one party agrees to exchange a fixed amount of one currency for a fixed amount of another currency, and vice versa, at predetermined intervals. In a commodity swap, one party agrees to pay a fixed price for a certain quantity of a commodity, while the other party agrees to pay a market price for the same quantity of the commodity.


A warrant is a contract that gives the buyer (holder) the right, but not the obligation, to buy or sell an underlying asset at a specified price (strike) on or before a specified date (expiration). The seller (issuer) of a warrant is usually the company that issues the underlying asset, such as shares of stock or bonds. Warrants are similar to options, but they have some differences, such as longer expiration dates, lower liquidity, and dilution effects.


Derivatives can be used for various purposes, such as hedging, investing, speculating, and arbitraging. Hedging is the use of derivatives to reduce or eliminate the risk of an adverse price movement in an underlying asset. Investing is the use of derivatives to enhance the return or diversify the portfolio of an underlying asset. Speculating is the use of derivatives to bet on the direction or volatility of an underlying asset. Arbitraging is the use of derivatives to exploit price discrepancies or inefficiencies in different markets or instruments.


Derivatives pricing and valuation are based on several key concepts and principles, such as no-arbitrage condition, risk-neutral valuation, binomial model, Black-Scholes model, delta hedging, Greeks, implied volatility, and Monte Carlo simulation. These concepts and principles help us understand how derivatives derive their value from their underlying assets and how they change in response to various factors.


Derivatives Markets: Applications and Strategies




Now that we have reviewed some of the basic concepts and instruments of derivatives markets, let's look at some of the applications and strategies that are covered in Derivatives Markets by Robert L. McDonald. This will help you understand how derivatives can be used in various contexts and scenarios.


One of the main applications of derivatives is corporate risk management. Corporations use derivatives to hedge their exposures and manage their risks related to various sources of uncertainty, such as interest rates, exchange rates, commodity prices, credit quality, and more. For example, a corporation that borrows money at a variable interest rate can use an interest rate swap to convert its floating-rate liability into a fixed-rate liability. This way, it can lock in its borrowing cost and avoid paying higher interest if interest rates rise in the future. Similarly, a corporation that exports goods to foreign countries can use currency forwards or options to hedge its foreign exchange risk. This way, it can lock in its revenue in domestic currency and avoid losing money if foreign currencies depreciate in the future.


in the future. This way, he can leverage his position and earn a higher profit if his expectation is correct. Similarly, an investor who wants to diversify his portfolio across different asset classes can use futures or swaps to gain exposure to commodities, currencies, or indices. This way, he can reduce his risk and increase his return by taking advantage of the correlation or diversification benefits of different assets.


A third application of derivatives is speculation and arbitrage. Speculators use derivatives to bet on the direction or volatility of an underlying asset. They hope to make a profit by correctly predicting the future price movements or fluctuations of the asset. For example, a speculator who expects a stock price to decrease can use a put option to sell the stock at a higher price in the future. This way, he can profit from the decline in the stock price. Similarly, a speculator who expects a stock price to be volatile can use a straddle strategy to buy both a call and a put option on the same stock with the same strike and expiration. This way, he can profit from either a large increase or a large decrease in the stock price.


Arbitrageurs use derivatives to exploit price discrepancies or inefficiencies in different markets or instruments. They hope to make a riskless profit by simultaneously buying and selling the same or related assets at different prices. For example, an arbitrageur who observes that a stock is trading at a lower price in one market than in another market can buy the stock in the cheaper market and sell it in the more expensive market. This way, he can lock in a riskless profit equal to the price difference. Similarly, an arbitrageur who observes that a futures contract is trading at a higher price than its fair value based on its underlying asset can sell the futures contract and buy the underlying asset. This way, he can lock in a riskless profit equal to the mispricing.


Derivatives Markets: Regulation and Reform




The last topic that we will cover in this article is regulation and reform of derivatives markets. This topic is very relevant and important in today's financial environment, as derivatives markets have been involved in many financial crises and scandals over the past few decades. These events have raised many questions and concerns about the role, impact, and oversight of derivatives markets in the global financial system.


Some of the main challenges and issues facing derivatives markets today are systemic risk, counterparty risk, transparency, standardization, clearing, settlement, and supervision. Systemic risk is the risk that the failure or distress of one market participant can trigger a chain reaction of failures or distresses among other market participants, leading to a collapse or disruption of the entire financial system. Counterparty risk is the risk that one party to a derivative contract will default on its obligations to another party, causing losses or damages to the other party. Transparency is the degree to which market participants have access to information about the prices, volumes, terms, and risks of derivative contracts and transactions. Standardization is the degree to which derivative contracts and transactions have uniform and consistent features and specifications. Clearing is the process of transferring and reconciling derivative contracts and transactions between market participants through a central intermediary or clearinghouse. Settlement is the process of delivering and receiving the underlying assets or cash flows associated with derivative contracts and transactions at maturity or expiration. Supervision is the degree to which market participants are subject to rules, regulations, guidelines, and oversight by authorities or agencies.


In response to the financial crises and scandals involving derivatives markets, such as the 2008 global financial crisis and the 2012 LIBOR manipulation scandal, regulators have taken various measures and initiatives to reform and improve derivatives markets. Some of these measures and initiatives are:


  • The Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank Act) in the US, which was enacted in 2010 and aims to reduce systemic risk, increase transparency, enhance consumer protection, and promote financial stability in derivatives markets.



  • The European Market Infrastructure Regulation (EMIR) in the EU, which was enacted in 2012 and aims to reduce counterparty risk, increase standardization, improve clearing and settlement, and strengthen supervision in derivatives markets.



  • The Basel III framework for banking regulation in the world, which was adopted in 2010 and revised in 2017 and aims to increase capital requirements, liquidity standards, leverage ratios, and risk management practices for banks that are involved in derivatives markets.



  • The International Swaps and Derivatives Association (ISDA) Master Agreement for OTC derivatives contracts in the world, which was first published in 1987 and updated in 1992, 2002, and 2018 and aims to provide a common and standardized legal framework for OTC derivatives contracts and transactions between market participants.



These measures and initiatives have had significant impacts and implications for derivatives markets, such as increasing the costs, complexity, and compliance of derivatives activities, shifting the market structure and dynamics of derivatives activities, and creating new opportunities and challenges for market participants.


Conclusion