Chapter 9: Popular Search Words 345
Exotic A contract that is made to measure, or bespoke, for a
client and which does not exist as an exchange-traded instru-
ment. Since it is not traded on an exchange it must be priced
using some mathematical model. See pages 305–325.
Expected loss The average loss once a specified threshold
has been breached. Used as a measure of Value at Risk. See
page 48.
Finite difference A numerical method for solving differential
equations wherein derivatives are approximated by differ-
ences. The differential equation thus becomes a difference
equation which can be solved numerically, usually by an
iterative process.
Gamma The sensitivity of an option’s delta to the underlying.
Therefore it is the second derivative of an option price with
respect to the underlying. See page 111.
GARCH Generalized Auto Regressive Conditional Hetero-
scedasticity, an econometric model for volatility in which the
current variance depends on the previous random increments.
Hedge To reduce risk by exploiting correlations between finan-
cial instruments. See page 73.
Hybrid An instrument that exhibits both equity and fixed-
income characteristics, and even credit risk. An example would
be a convertible bond. Pricing such instruments requires
knowledge of models from several different areas of quantita-
tive finance.
Implied Used as an adjective about financial parameters
meaning that they have been deduced from traded prices.
For example, what volatility when put into the Black–Scholes
formula gives a theoretical price that is the same as the mar-
ket price? This is the implied volatility. Intimately related to
calibration.
L ́evy A probability distribution, also known as a stable
distribution. It has the property that sums of independent
identically distributed random variables from this distribution