2 introduction_to_financial_risk_management.ppt

usingfuturesformanagingrisk front nearby distant deferred endofday sizeofmarket noofcontractsstilltobedelivered everyopenandcloseposition thebasis basis currentspotprice futurespriceatthedeliverydatebases 0futuresp spotprice hedging usingfuturestomanagerisk inventoryhedgingvs anticipatoryhedging differenttypesofhedgesoneinvolvesanexistingpositioninthecashmarkettheotheriswhereacashpositionhasnotbeentakenbutisexpectedtobetakeninthefuture hedginginthefinancialmarketsismostlyoftheanticipatorytype i e hedgingtheinterestrateatwhichonewillborroworlend microvs macrohedging microhedge futurespositionismatchedagainstaspecificassetorliabilitymacrohedge hedgeisstructuredtooffsetthenet i e combined riskassociatedwiththehedger soverallasset liabilitymixbankthatusesinterestratefuturestoequatethedurationoftheassetandliabilitysidesofitsbalancesheet shortandlonghedge alongfutureshedgeisappropriatewhenyouknowyouwillpurchaseanassetinthefutureandwanttolockinthepriceashortfutureshedgeisappropriatewhenyouknowyouwillsellanassetinthefuture wanttolockintheprice shorthedge onmay15 theproducerofcrudeoilnegotiatedacontracttosell1mil barrels priceonaugust15 ifthepgoesupfor1chegains10 000usd ifitgoesdown1chelose10 000usdmaybetohedge whatare and ofthis pro companiesshouldfocusonthemainbusinesstheyareinandtakestepstominimizerisksarisingfrominterestrates exchangerates andothermarketvariables against shareholdersareusuallywelldiversifiedandcanmaketheirownhedgingdecisionsitmayincreaserisktohedgewhencompetitorsdonotexplainingasituationwherethereisalossonthehedgeandagainontheunderlyingcanbedifficult so whatifwehedge longhedge acopperfabricatorknowsheneeds100 000poundsofcopperonmay15 spotpis120c poundandfuturesformaydeliveryis120c pound eachcontractis25 000pounds nymex crosshedging twoassetsaredifferentexample lufthansanojetfuelfutures soneedtousesomethingelse constructingthehedge thehedgeratio hr h hristhenumberofunitsoffuturesnecessarytohedgeoneunitofthecashposition naiveapproach 1 1 notforcrosshedging optimalhedgeratio proportionoftheexposurethatshouldoptimallybehedgedisssisthestandarddeviationof s thechangeinthespotpriceduringthehedgingperiod sfisthestandarddeviationof f thechangeinthefuturespriceduringthehedgingperiodristhecoefficientofcorrelationbetween sand f 4 17 thenweneedtoknownoofcontractsna sizedofpositionbeingheldqf sizeofonefuturescontractn optimalnumberoffuturescontractsforhedging example lufthansaneedstobuy2mil gallonsofjetfuelinonemonthfromnow theyuseheatingoiltohedgeposition exceltablegivespforlast15months calculatethenumberofcontractsforshorthedge cost of carryarbitrage occurswhenthespotpriceistoolowrelativetothefuturesprice moneycanbemadebysimultaneouslybuyingthespotassetandestablishingashortfuturesposition thenholding i e carrying thecommodityuntildeliveryatt1youdelivertheassetagainstyourfuturesobligation f0 t s0 1 c f0 t futurespriceobservedtodayfordeliveryattimet s0 spotpriceobservedtodayc expectednetcostofcarry reversecost of carryarbitrage simultaneouslygoshortthecommodityandlongthefuturespositionf0 t s0ebte exponentialfunctionb expectednetcostofcarryexpressedasarate t timebetweentodayandthedeliverydate riskfreerate reporateimpliedreporate example thereisno 2redwheatinachicagowarehouse thecurrentspotpriceis300centsperbushel thecurrentone monthreporateis6percent andthecostofstoringandinsuringonebushelofwheatis4centspermonth priceoftoday sfuturescontractcallingfordeliveryinonemonth youcouldbuywheattodayatthespotpriceandthenstoreitforonemonth 300 1 30 360 06 4 305 5centsperbushelifthefuturespriceisabove305 5 youcouldshortthefutures buywheattoday storeitforonemonth andmakearisklessarbitrageprofit airr annualizedimpliedreporate 300 1 30 360 airr 4 306 5centsperbushel airr 360 30 306 5 304 1 9