Suggested Refinements to Courses on Derivatives: Presentation of Valuation Equations, Pay Off Diagrams and Managerial Application for Second Generation Options

Abstract

This pedagogical paper should help enrich the derivatives courses that are delivered to both graduate and undergraduate students. We provide pricing formulae and payoff diagrams for some of the more popular second generation or exotic options. In spite of their growing popularity, current textbooks usually provide only cursory definitions, often without supporting mathematical equations, payoff diagrams and, most importantly, examples of their managerial application. This paper presents valuation equations, payoff diagrams and managerial applications for binary, lookback, chooser, compound, Bermuda, Asian, barrier and forward start options.

Keywords: Exotic options, Managerial Applications, Valuation Equations

JEL Classification: A23, C33, C39, G11