What is a Fairly Valued Security? A security is said to be fairly valued if its market price is equal to its true value. Since the true value of a security is usually not known, the question of whether a security is fairly valued lacks a definite answer. Most securities are valued using some variation…
What is the Local Expectations Theory? In finance and economics, the Local Expectations Theory is a theory that suggests that the returns of bonds with different maturities should be the same over the short-term investment horizon. Essentially, the local expectations theory is one of the variations of the pure expectations theory, which assumes that the…
What is a Swaption? A swaption (also known as a swap option) is an option contract that grants its holder the right but not the obligation to enter into a predetermined swap contract. In return for the right, the holder of the swaption must pay a premium to the issuer of the contract. Swaptions typically…
What is Growth Equity? Growth equity (also known as growth capital or expansion capital) is a type of investment opportunity in relatively mature companies that are going through some transformational event in their lifecycle with potential for some dramatic growth. Uses of Growth Equity Growth capital is utilized by businesses to subsidize the expansion of…
What is an Embedded Option? An embedded option is a provision in a financial security (typically in bonds) that provides an issuer or holder of the security a certain right but not an obligation to perform some actions at some point in the future. The embedded options exist only as a component of financial security…
What is Matrix Pricing? Matrix pricing is an estimation technique used to estimate the market price of securities that are not actively traded. Matrix pricing is primarily used in fixed income, to estimate the price of bonds that do not have an active market. The price of the bond is estimated by comparing it to…
What are Exotic Options? Exotic options are the classes of option contracts with structures and features that are different from plain-vanilla options (e.g., American or European options). Exotic options are different from regular options in their expiration dates, exercise prices, payoffs, and underlying assets. All the features make the valuation of exotic options more sophisticated…
What is a Blockage Discount? Blockage discount – also sometimes referred to as the blockage factor – is the discounted price or value the market gives stocks when a block of shares is sold. The exact number of shares constituting a block varies. However, any time more than 10,000 shares of a company’s stock are…
What is Straddle? A straddle strategy is a strategy that involves simultaneously taking a long position and a short position on a security. Consider the following example: A trader buys and sells a call option and put option at the same time for the same underlying asset at a certain point of time. Both options…
What is XVA (X-Value Adjustment)? XVA, or X-Value Adjustment, is a collective term that covers the different types of valuation adjustments relating to derivative contracts. The adjustments are made to account for the account funding, credit risk, and capital costs. When initiating new trades in the derivatives market, traders incorporate XVA into the price of…
