11.Derivative Markets and
Instruments
11.1.
Definition of a derivative
A
derivative is a financial instrument that provides a return that depends on the
price of another underlying asset.
A
derivative has a finite life and usually the payoff or return on the derivative
is decided at the expiry date.
Exchange-traded
versus over-the-counter derivatives
Exchange-traded
derivatives have standard terms and are traded in an organized derivatives
market or exchange. Over-the-counter derivatives are ones which are traded
between two parties outside the exchange.
11.2 Definition
of forward commitment
Derivatives
are either forward contracts or contingent claims. Forward contracts or
commitments are ones where two parties agree to do a transaction at a later
date at a price decided at the start.
We will
look at exchange-traded contracts which are called futures contracts and
over-the counter contracts which consist of forward contracts and swaps.
11.2.1 Forward
commitments
Forward
contract a contract is agreed at
one point in time, the performance is in line with the terms of the contract
and settlement occurs at a subsequent time. The forward contracts discussed are
ones which involve an exchange of one asset for another with the price agreed
in the initial contract. Forwards are often non-standardized contracts and are
traded in unregulated markets, so the parties bear the counterparty risk, i.e.
that the party who bears a loss as a result of the transaction defaults on the
payment.
Futures
contract futures are a form of forward
contract since one party agrees to accept or deliver an underlying asset, or
cash equivalent, to another party, at a future expiration date, at a price
determined at the beginning of the contract. A futures contract differs from a
forward contract since it has standardized contract terms and is traded through
an exchange. The contract is effectively guaranteed by the clearinghouse (a financial institution
associated with the futures exchange). A deposit (margin) must be deposited at
the clearinghouse by futures traders.
Swap this is an agreement between two parties (the
counterparties) to exchange a series of cash flows over a period of time (the tenor) in the future. It is
effectively a series of forward contracts.
These cash
flows are often dependent on exchange rates (currency swaps) or interest rates (interest rate swaps). The swap market is largely unregulated and
parties must take into account counterparty risk.
11.2.2 Contingent
claims
Whereas a
forward contract is binding on both parties, the other category of derivatives
is contingent claims. They are often referred to as options and here a payoff
occurs only if a specific event takes place.
Options - these are either call options or put options. The holder
has the right to buy (a call option) or sell (a put option) an underlying asset
at a pre-specified price (the exercise
price or strike price) up
to/at a certain date. It is important to differentiate between a future where
the holder has the obligation to buy or sell and an option where the holder has
the choice whether to buy or sell. The seller of the option is the option writer; he/she receives a
payment from the buyer but is obliged to buy or sell the underlying asset if
the holder of the option wishes to do so.
The payment
is the option price, sometimes called the option premium.
Options can
be either exchange-listed or over-the-counter. If they are exchange-listed they
are standardized contracts and guaranteed by the exchange, whereas with
over-the-counter options there is the possibility that one party will default.
Several
types of financial instruments contain options and are forms of contingent
liabilities.
These
include convertible bonds where the holder can decide whether to participate in
a rise in the underlying stock price, callable bonds where the issuer can buy
back the bond prior to maturity and asset-backed securities where the borrower
holds a prepayment option.
11.3 Purposes
of derivative markets
Price discovery: Futures prices provide useful
information on the price of the underlying asset (the current price of the
underlying asset is called the spot price). A short-term futures price is
sometimes used as a proxy for the spot price.
Options
prices provide information about the volatility of the underlying security.
Risk
management: An important use of derivatives is to control risk
including removing certain types of risk from investment.
Market
completeness: This means that all potential payoffs can be
obtained by trading securities available in the market. The inclusion of
derivatives in a market adds to the different risk/return combinations
available.
Speculation: Speculation
is taking on risk in pursuit of additional profit.
Trading
efficiency: Investing in a derivative
can be a more attractive alternative than investing in the underlying
instrument. This might be a result of greater liquidity or lower transaction
costs in the derivatives market.
Criticisms of derivative markets
·
Many of the criticisms of
derivatives stem from their complexity, which leads to commentators misunderstanding
their role, or investors purchasing derivatives without understanding the risks
involved.
·
Derivatives are often seen as
legalized gambling. This is an unfair criticism since derivatives have the
benefit of making financial markets work better and provide a means for people
to manage risk, whereas it is difficult to argue that gambling improves society
as a whole.
An arbitrage is when it is possible to
trade and generate a riskless profit, without needing to make a net investment
in the security being arbitraged. This opportunity might occur if the same
security was priced differently in different stock markets or derivatives were
mispriced. The text assumes that there are no arbitrage opportunities (the no-arbitrage principle) since
arbitrage opportunities will not exist in an efficient market.
11.4 Forward
Markets and Contracts
A forward
contract is a commitment between two parties to do a transaction at a later
date with the price and terms set in advance. It is assumed that no money
changes hands at the beginning of the contract.
Long and short parties
A forward
agreement is between two parties, one is the buyer (called the long) and the
other the seller (the short), who agree to do a transaction at a future date at
a specified price. No money changes hands when the agreement is made. A forward
transaction locks in the price, so the parties are unaffected by price changes
between the date when the contract is agreed and the expiry of the contract. An
example of an investment manager using forwards would be if a manager has to
meet redemptions from a fund and will need to sell U.S. securities in two
months time. He could enter into a forward transaction today where he takes a
short position thereby locking in the sale price of the securities.
Expiration
On expiry
of the contract there are two ways that the parties can settle.
Delivery,
the long accepts delivery of the underlying asset and pays the agreed price to
the short.
Cash
settlement, the long and short exchange the net payment, the
difference between the agreed price and the current price of the underlying
asset. These contracts are called non deliverable forwards.
In either
case both parties are subject to default risk, the party who has made a profit
bears the risk that the other party does not settle.
Termination of a contract
Usually
both parties enter into a forward contract on the basis that they will hold it
through to expiry. However, there are situations where one party will wish to
terminate the contract prior to expiry. The party can go into the market and
enter into an offsetting contract. For example, if the party who wishes to
terminate the contract had a long position, they could enter into a new
contract with the same underlying asset and expiry date, this time taking the
short position. This will remove the net exposure to the asset.
Alternatively
the party could look at entering into a second contract with the same party to
avoid having two sets of counterparty risk outstanding. In this case, the
contracts will be cancelled and the parties will exchange the present value of
the value of the contract at expiry.
We now look
at the different types of forward contracts. They are categorized on the basis
of the underlying asset to the contract.
11.4.1 Equity
forwards
These are
contracts for the purchase of individual stocks, a portfolio of stocks or a
stock index.
Equity
forwards make payments based on the return of the index or price movement of
the stock, which does not include dividends, unless a total return index is
specifically referred to.
11.4.2 Bond
forwards
A forward
contract on a bond or bond index is similar to an equity forward. However there
are some differences; a forward contract on a bond must expire before the bond
matures and a forward contract must specify what happens if a bond defaults
(and how a default is defined). Also, if a bond has an embedded option or
convertibility, this must be considered in the terms of the contract.
If we look
at the forward contract for a risk-free zero-coupon bond, in this case a
Treasury bill, the prices are quoted in terms of the discount rate. The
interest is deducted from the face value of the bill and is calculated based on
a 360-day year (e.g. if a 180-day T-bill is selling at a discount of 3%, its
price will be $1.00 0.03(180/360) = $0.985.
Forward
contracts on coupon bond prices are usually quoted with accrued interest, and
prices are often quoted by stating the yield.
11.4.3 Currency
forwards
Currency
forwards are widely used in the investment business and also by banks and
corporations to manage currency risk.
11.5 Futures
Markets and Contracts
Futures
contracts which are in many ways similar to forward contracts except that they
are exchange traded and have standardized contracts. This has some important
implications including the requirement for an investor using futures to deposit
margin.
11.5.1 Futures
versus forwards
A futures
contract is dealt on a recognized exchange and there are a number of ways in
which futures and forwards differ:
A forward transaction is a private
transaction whereas a futures transaction is reported to the futures exchange,
the clearing house and often a regulatory authority.
A forward transaction is customized
whereas in a futures transaction all the terms (expiry, underlying asset etc.),
with the exception of the price, are set by the exchange.
Since futures contracts are
standardized they can be traded more easily in the secondary market making them
more liquid than forward cataracts.
The clearinghouse of a futures
exchange guarantees that trades settle, by acting as the counterparty to both
sides of a futures transaction. In a forward transaction each party takes on
the risk that the other party will default.
A futures contract is marked to market, also called daily
settlement, which means that gains and losses to each partys position is
calculated daily and credited or debited to their account.
In most markets, futures contracts
are regulated by the government.
An exchange
will set the expiration dates; these are often set at three month intervals,
e.g. March, June, September and December. Many contracts are only available for
a maximum period of one year, although some are for longer. The exchange also
sets which specific day of the month is the expiry day.
In the
U.S., trading of futures in an exchange takes place in the trading pit by a system of open outcry or by
electronic trading. The hours of trading, the contract size and the minimum
price movement are also set by the exchange.
As in the
case of forward transactions, a party to a futures transaction takes either a
long or short position. If a party wishes to close or terminate a position
prior to expiry he can enter the market and do an offsetting order (this
feature means that futures contract are fungible), for example the holder of a
long position can go into the market and take a short position in exactly the
same contract. Because the clearinghouse acts as the counterparty for the
settlement of each transaction, the two transactions can be offset.
Margin requirements
Margin
requirements make the futures market safer since they provide an assurance that
traders will be able to meet their financial obligations. This is different to
a margin in the securities market which refers to a loan being made.
Before a
trader enters into a futures transaction he must deposit funds with a broker.
These funds are called the initial
margin and the dollar amount per contract is usually set by the
clearinghouse. This is a deposit against future liabilities and once a
transaction is settled it is returned, with interest that has accrued, to the
trader.
Each day
the contract is marked-to-market. If a trader starts to lose money on a
transaction and the value of his equity with the broker falls to the maintenance margin level (often around
75% of the initial margin) he will receive a margin call, and will need to deposit sufficient funds (the variation margin) to bring the account
back to the initial margin level. This is the process of daily
settlement or marking to market. Alternatively, if a trader is making profits
they can withdraw funds as long as the accounts equity value stays above the
initial margin.
The
clearinghouse collects margin payments from clearing members only, so if a
broker is not a member it will clear all trades with a clearing member.
Terminating a futures position
A futures
contract can be terminated in three ways:
1. Delivery
or cash settlement.
2. Offset -
a reversing trade where a party sells exactly the same contract that was
originally bought (or vice versa).
3.
Exchange-for-physicals. This is when two traders privately agree to exchange
the physical good underlying the futures transaction prior to the delivery
date.
11.6 Option
Markets and Contracts
Options are
quite different from forwards and futures since the holder of an option has the
right, but not the obligation, to buy or sell an underlying asset. Also the
option buyer must pay the option seller for this right or option at the
beginning of the contract.
A call option gives the holder the right
to buy at a pre-specified price (called the exercise price, strike price
or striking price) and a put option the right to sell at the
exercise price. For example, the owner of a call option has a choice whether to
exercise the option or not. Whatever they do they pay the price of the option
(the option premium) and if they
decide to exercise the option they must pay the exercise price to the option
seller in order to buy the underlying asset. On the other hand the seller, or
writer, of the call option keeps the premium but is obliged to sell the
underlying asset to the option holder if he decides to exercise the option.
An option
has an expiry or expiration date,
and an option that has not been exercised by this date expires worthless. If
the holder of a call option decides to exercise he must pay the exercise price
and will be delivered the underlying asset or an equivalent cash sum. If the
holder of a put exercises the option he will deliver the underlying asset, or
cash equivalent, and receive the exercise price.
Options can
be traded on exchanges or over-the-counter. Note that if they are dealt
over-the counter, the credit risk is unilateral since only the option writer
can default.
The most
common exchange traded options in the U.S. are stock options, index options,
foreign currency options and options on futures.
An American option can be exercised at
any time prior to or at expiration, a European
option at expiration only. So for equivalent options, an American option
is worth more, since in certain situations it may be advantageous to exercise
the option prior to expiry.
A call
option is in-the-money if the
stock price is higher than the exercise price, out-of-the money if the stock price is lower than the exercise
price and at-the-money if the
stock price is equal to the
exercise price (and the opposite holds for put options). Options that are far
in-the money are called deep-in-the-money and far
out-of-the-money are called deep-out-of-the
money.
Intrinsic value
The value of a call option at expiry is either zero or the stock price
(S) minus the exercise price (X). This is the intrinsic value of the option,
the value of the option if it was exercised immediately. If the intrinsic value
is positive, the option is in-the-money. If it is zero then the option is
out-of-the-money or at-the-money.
A put option will have a value at expiration of Max [0, (X S)]; this is
the intrinsic value. Prior to expiration an option will usually trade at a
market price above its intrinsic value. The difference between the price and
the intrinsic value is the time value.
Over-the-counter options
These are customized contracts (price, exercise price, time to expiry etc
are decided by the two parties), and the parties are usually institutional
rather than retail investors. The option buyer runs the risk the writer will
default, and sometimes will require collateral. The markets are essentially
unregulated.
Exchange-traded options
The exchange standardizes all the terms of the option contract; only the
price is decided by the participants. Usually there are options available with
an exercise price close to the trading price of the underlying asset. The
exchange decides which companies (in the case of stock options) will be listed
for options trading. The participants in the exchange are usually either market
makers or brokers.
As in the case of futures, the transactions are guaranteed by the
clearing house. The clearing house also has to protect itself against the
writers defaulting so the premium paid is deposited in the option writers
margin account and the writer must deposit additional money in the account.
The amount will depend on whether the option is in or out-of-the money
and whether the writer has hedged the risk.
Since the contracts have standardized terms, an option holder can go to
the market and sell the same contract and the positions will be cancelled.
Generally at expiry an in-the-money option will be exercised and
out-of-the-money options will expire unexercised. Most exchange-traded options
require actual delivery of the stock rather than cash settlement; in this case
the decision to exercise will take into account the transaction costs involved
with trading the stock or settling in cash.
11.6.1 Financial
options
We now look at the different types of financial options available. They
are categorized in terms of the underlying instrument.
Stock options
These are options (sometimes called equity options) on individual stocks
and are popular in the market.
Index options
These are options on stock indices, such as the S&P 500 Index, which
are for cash settlement (based on a multiplier times the index level).
Bond options
Bond options are not popular with the retail investor and most of the
trading is between institutions in the over-the-counter market. They can be for
actual delivery or for cash settlement and are based on a notional principal which
is quoted in terms of the face value of the bond.
Interest rate options
We will consider options on LIBOR as an example of interest rate options.
Note that there is not an underlying financial instrument but an interest rate
that is used to calculate the payoff.
In the case of FRAs the payoff is based on the discounted spot rate of a
LIBOR payment. Interest rate options are options where the underlying asset is
an interest rate so rather than an exercise price we have an exercise rate or
strike rate. An FRA is a commitment to make and receive an interest rate
payment at a later date and the payment is made immediately the contract
expires. An interest rate option is the right to make one interest payment and
receive another.
An interest rate call is an option where the holder has the right to make
a known interest rate payment and receive an unknown payment. An interest rate
put is an option where the holder has the right to make an unknown interest
rate payment and receive another known payment.
Interest rate options and FRAs have a notional principal. The options are
usually European style and settle for cash. They are often dealt in by the same
dealers that make prices in FRAs.
When interest rate options are being used for hedging, for example to
hedge the risk on a floating rate loan, then the buyer is purchasing a series
of interest rate options. This series of call options is called an interest
rate cap, or a cap. A series of interest rate put options is called an interest
rate floor, or floor. An interest rate cap is defined as a series of call
options on an interest rate, with each option expiring at the date on which the
rate on the floating rate loan will be reset; each option has the same exercise
rate. Each call option is a caplet. Similarly each component of an interest
rate floor is a floorlet. The price of the interest rate cap or floor is just
the sum of the constituent options.
An interest rate collar is a combination of a long cap and short floor or
vice versa.
Currency options
A currency option gives the holder the right to buy or sell an underlying
currency at a fixed exercise rate, which is an exchange rate.
Options on futures
This is an option where the underlying is a futures contract; a call
option gives the holder the right to go long of the futures at a fixed price
and a put option the right to go short. The fixed futures price is the exercise
price. There are arbitrage opportunities and in some cases the options are
essentially an option on the spot price of the underlying asset (when the
options and futures expire on the same date).
11.6.2 Option
pricing
We now look at the pricing and valuation of options. Options always have
a positive value for the holder up until expiration.
The notation used throughout is:
S0, ST =
price of underlying asset today, price of underlying asset at time T
X = exercise price
r = risk-free rate
T = time to expiration,
expressed as number of days divided by 365
c0, cT =
price of European call option today and at expiry
C0, CT =
price of American call option today and at expiry
p0, pT =
price of European put option today and at expiry
P0, PT =
price of American put option today and at expiry
Looking first at the value at expiration, or the payoff, of a long call
position we can see that if the underlying price is less than the exercise
price, the option will lapse with zero value. If the underlying price is higher
than the exercise price then the long call position has a value equal to (ST
X). The short position will have a value which is the negative of the value
of the long position.
At expiration both European and American options have the same payoff;
they are the same instruments at this point, so:
cT = Max [0, ST X] and CT = Max [0, ST
X]
With a put option if the underlying price is higher than the exercise
price, the option will lapse with zero value. If the underlying price is lower
than the exercise price then the long put position has a value equal to (X -
ST). At expiration:
pT = Max [0, X ST] and PT = Max [0, X
ST]
Lower bounds
Since an American option can be exercised at any time, the lower bound of
its value is its intrinsic value; otherwise it could be exercised for an
immediate gain. However for a European option the lower bound is a function of
the present value of the exercise price, since we cannot exercise until the
expiry date. So:
c0 ≥ Max [0, S0 X/(1 + r)T] p0 ≥ Max
[0, X/(1 + r)T- S0]
C0 ≥ Max [0, S0 X] P0 ≥ Max [0, X S0]
An American call must always be worth at least as much as a European call
so we can say that
C0 ≥ Max [0, SO X/(1 + r)T]
but the lower bound for an American put is higher than a European put so
we cannot adjust the formula for the put which remains, P0 ≥ Max [0, X S0].
Note that the concept of intrinsic value and time value is not strictly
applicable for a European call since European calls cannot be exercised until
expiry, so prior to that the concept of intrinsic value does not exist.
Exercise price
Let us consider the case where we have two call options with the same
terms except for the exercise prices. The first is a European call with an
exercise price X1 and the second a European call with an exercise price X2,
which is larger than X1. We will refer to these as c0(X1)
and c0(X2) respectively. If we look at a portfolio where
we buy c0(X1) and sell c0(X2) we
can calculate the value at expiration, for the three possible prices of the
underlying ST as follows:
Value at expiration
|
|
Value at expiration |
||
|
S T≤ X1 |
X1 < ST
< X2 |
ST ≥X2 |
|
|
c0(X1)
- c0(X2) |
0 |
ST - X1 |
ST X1
(ST X2) = X2 X1 |
In all three cases the value is zero or positive, so we can conclude that
the value of c0(X1) is higher than c0(X2).
A call
option with a lower exercise price has a higher or equal value to one with a
higher exercise price. This holds for both
European and American calls.
Using the same methodology we can show that the value of a put with a
higher exercise price has a higher or equal value to one with a lower exercise
price.
Time to expiry
Now we look at two call options with the same terms except for the time
to expiry. The first is a European call with a time to expiry T1 and
the second a European call with a longer time to expiry T2. We will
refer to these as c0(T1) and c0(T2)
respectively.
When the first option expires it has a value of Max [0, ST1
X] and at this point the call with a longer time to expiry will have a value of
at least Max [0, ST X/(1 + r)T2-T1]; this is worth at
least as much as the shorter-term call. The same will be true for American call
options.
We have shown that longer-term calls are worth at least as much as
shorter-term calls. This is intuitively correct, as the longer you can hold
the option the more chance there is of making money.
For European put options, the case is not so clear because if you
exercise a put you receive money which can earn interest. However, usually a
longer-term put will be worth more and all longer term American put options
are worth more than shorter-term ones (which can be exercised at any time so
there is no penalty in waiting to expiration).
11.6.3 Put-call
parity
Next we look at the relationship between call and put options. A
fiduciary call is defined as a European call option plus a risk-free bond that
matures on the expiration day and has a face value equal to the exercise price.
We also look at the value of a protective put which is a European put plus the
underlying asset. We show in the table below that the payoff from a fiduciary
call and a protective put is the same whether the underlying price is above or
below the exercise price at expiry.
|
|
Value at expiration |
|
|
ST ≤ X |
ST >X |
|
|
c0 + X/(1 + r)T |
0 + X = X |
ST X + X = ST |
|
p0 + S0 |
X ST + ST
= X |
0 + ST = ST |
Therefore we can see that the fiduciary call and the protective put have
the same value. This is called put-call parity and it is expressed by
the equation:
c0
+ X/(1 + r)T = p0 + S0
Note that this equation only holds for European options, not for American
options.
Re-ordering the equation we can see that:
c0 = p0 + S0 - X/(1 + r)T
The right-hand side of the equation is the equivalent to a call and is
referred to as a synthetic call.
Alternatively we can rewrite the equation as:
p0 = c0 S0 + X/(1 + r)T
and the right-hand side is now a synthetic put.
Arbitrage opportunities
If above equations does not hold, there is an opportunity for arbitrage.
The side that is overpriced should be sold and the side that is underpriced
should be purchased. At expiry a risk-free gain will be realized.
EXAMPLE: PUT CALL PARITY
A one-year call option exists which is priced at $5, has an exercise
price of $50 and the underlying is priced at $45. The one-year risk-free rate
is 5%. The put with the same expiry and underlying is priced at $4.
Using the equation stated above
c0 + X/(1 + r)T = $5 + $50/(1.05) = $52.62
p0 + S0 = $4 + $45 = $49.00
The fiduciary call is overpriced so there is an arbitrage opportunity. We
should write the call and borrow sufficient to buy the put and the stock. This
will generate a gain of $3.62 and at expiry there will be no net payout.
11.7 Swap
Markets and Contracts
Swaps are essentially a series of forward rate agreements. The two
parties agree to exchange payments; usually at least one party will make a
payment which is dependent on a variable such as an interest rate or equity
index level.
11.7.1 Swap
contracts
In a swap agreement the counterparties agree to exchange a sequence of
cash flows over a period in the future. One party (or sometimes both parties)
is usually agreeing to make payments that depend on the price of a random
outcome such as the level of interest rates, currency rates or commodity
prices. These payments are referred to as variable or floating. The party
paying the floating rate is called the floating- or variable-rate payer, the
other party the fixed-rate payer.
Each date when payments are made is called a settlement date and the time
between the settlement dates is the settlement period. If payments are
being made in the same currency they will be netted off against each
other.
The swaps market is virtually unregulated and offers privacy for the
counterparties entering into a transaction; however the parties take on the
risk that the other party defaults on the transaction.
11.7.2 Termination
of swaps
If a party wishes to terminate a swap prior to the termination or
expiration date, there are a number of alternatives:
A swap
has a market value; this can be calculated and if both parties agree, the
payment is made by the party holding the negative market value to the other and
this will terminate the swap.
A party
can enter into a separate and offsetting swap agreement with another party. If,
for example the party is making floating-rate rate payments, they could enter
into another swap where they receive floating-rate payments. This can be
designed to eliminate the interest rate risk but default risk will remain with
both counterparties.
The swap
could be sold to another party, although they will need the permission of the
first counterparty.
Use a
swaption; this is an option to enter a swap agreement, and could be used to
enter an offsetting swap agreement.
11.7.3 Currency
swaps
In a plain vanilla currency swap, each party holds one currency that they
wish to convert to the other partys currency. In this case the principal is
swapped and then paid back at the end of the tenor of the swap. Each party will
pay interest on the currency it receives from the other party.
The payments can be fixed or floating rate according to the swap
agreement, but in a plain vanilla currency swap one party would pay a floating
rate on dollars and the other a fixed rate on the foreign currency. Payments
might be annual or for a shorter period, in which case the number of days
between settlement dates is usually divided by 360, e.g. semi-annual interest
is calculated using 180/360. The payments are usually made in arrears.
11.7.4 Interest
rate swaps
In a plain vanilla interest rate swap, one party agrees to pay a series
of fixed-rate interest rate payments and the other party to pay a series of
floating rate payments, over a period of time called the tenor of the
swap. The payments are based on the interest rate calculated on a notional
principal. The notional principal does not change hands.
Payments are usually determined in advance and paid in-arrears,
which means that the floating rate payments are decided by the floating rate
benchmark (e.g. LIBOR) at the previous settlement date. Usually only the
difference between the two payments, the net payment, is made.
11.7.5
Equity swaps
In this case, the variable is the return on a stock or stock index. Since
the return from a stock can be negative, we could have one party paying a fixed
rate plus an equity-related payment.
Another difference between equity swaps and interest rate and currency
swaps is that the stock prices are only known at the end of the settlement
period. Equity swaps are often structured to include both dividends and capital
gains.