Derivatives and Usury: The Role of Options in Transactions Used to Act in Fraud of the Law

11 Pages Posted: 2 Nov 2015

See all articles by Emilio Barone

Emilio Barone

Luiss - Guido Carli (Dpt. of Economics and Finance)

Gennaro Olivieri

LUISS Guido Carli University

Date Written: May 17, 2015

Abstract

The search for derivative contracts with complex features can also be explained as the market’s attempt to elude the restrictions imposed by the law on money loans. This is an undesirable effect of anti-usury rules. It can be added to the one mentioned by Montesquieu and Adam Smith, who pointed out that usury increases with the severity of the prohibition, since the lender indemnifies himself for the risk he runs of suffering the penalty.

In this paper we look at some of the ways in which derivative contracts can be used to circumvent anti-usury provisions and conceal money loans made at exorbitant rates.

After examining the simplest cases, we will consider more complex contracts, such as swaps with embedded options, which are often used in dealings between banks and municipalities. Our thesis is that, in all these cases, in order to detect usury, we have to calculate the contracts’ option-adjusted yields.

Keywords: put-call parity, forwards, box spreads, strangles, interest-rate swaps, collars, caps, floors, flat volatility, spot volatility

JEL Classification: G14

Suggested Citation

Barone, Emilio and Olivieri, Gennaro, Derivatives and Usury: The Role of Options in Transactions Used to Act in Fraud of the Law (May 17, 2015). Available at SSRN: https://ssrn.com/abstract=2683355 or http://dx.doi.org/10.2139/ssrn.2683355

Emilio Barone (Contact Author)

Luiss - Guido Carli (Dpt. of Economics and Finance) ( email )

Viale Romania, 32
Rome, 00197
Italy

HOME PAGE: http://docenti.luiss.it/barone/

Gennaro Olivieri

LUISS Guido Carli University ( email )

Viale Romania, 32
Rome, Roma 00100
Italy

HOME PAGE: http://www.studio-olivieri.it

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