An Introduction to Equity Derivatives: Theory and Practice by Sébastien Bossu

An Introduction to Equity Derivatives: Theory and Practice by Sébastien Bossu

Part I
Building Blocks

1
Interest Rate
In this chapter we review the idea of interest rate and the closely related
concepts of compounding and discounting.
1-1 Measuring Time
In finance the standard unit of time is the year. But can we safely assume
that a year has 365 days? What about the 366 days of a leap year? What
fraction of a year does the first six months represent: 0.5, or 181/365
(except, again, for leap years)?
Financial markets have regulations and conventions to answer these
questions. The problem is that these conventions tend to vary by country.
Worse still, within a given country different conventions may apply to
different financial products.
We leave it to readers to become familiar with these day count
conventions while in this book we will use the following rule, which
professionals call 30/360 (Table 1-1 below). Note that the initial date starts
at noon and the final date ends at noon; thus, there is only one whole day
between 2 February 2012 and 3 February 2012.

An Introduction to Equity Derivatives: Theory and Practice by Sébastien Bossu