A Review of the Literature on Derivative Securities in Korea

The main purpose of this paper is to review the literature on derivatives securities published in Korean finance and economics journals by focusing on three research areas: derivatives markets, the valuation of derivatives securities, and risk management. First, the literature on derivatives markets is reviewed in terms of four issues: the effects of launching the derivative securities on the underlying assets markets; the lead and lag effects between derivatives and the underlying assets markets, which have drawn substantial attention from academia; and the price discovery functions of derivatives markets as well as the expiration-day effects of options. In addition, papers analyzing arbitrage trading strategies with derivative securities are reviewed. Second, for the valuation of derivatives securities, we review papers presenting theoretical models for the pricing of futures, various types of options, and interest rate derivatives. Then, empirical papers on the valuation of derivative securities are reviewed. These papers examine empirically the distributions and stochastic processes of the underlying asset prices, as well as the behavior of volatilities in order to understand and overcome the limitations of the standard models. Third, we review the literature on risk management, which is regarded as one of the main functions of derivative securities. These papers investigated how to formulate effective hedging strategies using derivative securities. Finally, we make suggestions as to the next steps and directions for future research on derivative securities in Korea based on the review of the literature.