Wednesday, August 26, 2015
Jewitt, FX Derivatives Trader School
Jewitt has a knack for clarifying concepts that traders often rely on but don’t really understand. Take, for instance, the notion of a Wiener process (also called Brownian motion). “A Wiener process is a continuous stochastic process with stationary independent increments. Translating:
• ‘Continuous’ means ‘its path doesn’t jump.’
• ‘Stochastic’ means ‘it moves.’
• ‘Stationary’ means ‘its probability distribution does not change over time.’
• ‘Independent increments’ means ‘each change does not depend on any previous changes.’” (p. 61)
For those who can handle VBA, Jewitt includes a series of so-called practicals. He implores students and new traders not to cheat and download the spreadsheets available to those who buy the book unless they get completely stuck. The seven practicals encompass building a trading simulator, a numerical integration option pricer, and a Black-Scholes option pricer, generating tenor dates, constructing an ATM curve and a volatility smile, and generating a probability density function from option prices, all in Excel. (Dare I admit that I cheated?)
The chapter on vanilla FX derivatives risk management is especially illuminating, describing how good traders manage their positions. I was also intrigued by the discussion of ATM volatility and FX correlation, especially the ATM volatility triangles.
All in all, Jewitt’s book will probably take most readers’ knowledge of options trading (and certainly of FX options trading) up two or three notches. It’s worth investing the mental effort to work through the text.