where r = domestic annual interest rate, v =annualized, continuously

compounded storage costs or depreciation, c= the convenience yield

(leasing, foreign currency interest rate , d = cash pay outs)
-A forward is a private contract between 2 parties , non standard , 1
specific delivery date , final cash when the delivery occurs , traided at
maturity
-A futures contract conveys the obligation to buy or sell a standard
quantity of an asset (or security), at a fixed price, on a fixed future date.
Standard contrat , range of delivery dates , closed prior maturity ,
traided daily
-As futures are traded daily, the price of a futures contract at any date t
before its maturity in T is : Ft= Ste(r+v-c-d)(T-t) and T-t=time to
maturity
-A perfect (short) forward hedge
Suppose that we own q units of an asset that we have to sell in t = 1
and the forward price in t = 0 is F0. Each unit of the asset held will be
worth S1 (spot) in t = 1. The total value at maturity will be qS 1 and s1=
spot exchange rate
Shorting h forwards at t = 0 pays h(F0-S1) in t=1. The total value i

s
-A perfect (long) forward hedge
A long exposure hedged with a short forward position pays:

Suppose we were short in the asset, i.e., we have to buy the asset in the
future.
• If we go long forward by h units, the total payoff is
-Why hedge ?Companies with superior growth opportunities or critical R&D
programs: hedging lowers the risk of being unable to make timely
-The hedging ratio is the ratio of the size of the position taken on the
investments because of cash shortfalls , Companies with lots of debt: hedging
hedging instrument to the size of the position exposed to risk. = h/q
lowers the probability that foreign exchange problems will prevent them from
-spot price = buy or sell an asset immediately at the current market
meeting their fixed obligations,Companies that face a steeply convex tax
price / futur price=buy or sell an asset for a set price on a future expiry
function: hedging can smooth income so the company pays less tax over time
date / option price= get the right but not the obligation to buy or sell an
,Companies that are opaque to the market: when management knows more asset for a set price on a set date/ strike price le prix d'exercice d'une
about the company’s prospects and opportunities than the market option, qui correspond au prix fixé dans le contrat pour l’acquisition ou
-capm : expected returm = risk free rate + (beta x market risk premium) la cession du sous-jacent.
-Market risk premium= (Rm-Rf)
Ex: A gold mine has sales contracts maturing on December 31st for
-V(x)= e((x-e(x))^2)) = e(x^2)-e(x)^2
£100,000. It is January 1st and the price of gold in the spot market is
- Portfolio volatility= racine de (w12σ12 + w22σ22 + 2w1w2Cov1,2 σ1 σ2)
£10 per ounce. Futures contracts for gold mature on March 31st, June
-calcul de beta et de premium : 30th, September 30th and December 31st of every year and each
contract must be for 100 ounces of gold.Suppose that there is no basis
risk. Suppose the annual interest rate for continuous compounding is
5%. What is the full hedging program to follow in order to minimize the
cash flow volatility?

-The market risk premium =expected return on a market portfolio - the risk-
free rate
-If p is NPV of the firm and E(c) its expected cash flow, then the expected
return is: E(r) = (E(c)-p)/p =and from capm E(r) - rF = B [E(rm) – rf ]
Ex: On March 1st, the forward price on 3 month Treasury Bills of face
donc E(r) = (E(c)-p)/p = rF +B[E(rm) - rF] and p = voir infra capm
value CHF 1, deliverable on June 1st and payable on August 30th is
-Call option : si prix de vente actuel > strike price alors on exerce l’option CHF 0.97. On March 1st, the spot price for bills of the same face value
investissement = prix de vente actuelle-strike price and maturing on May 30th and August 30th is 0.969388 and 0.95,
respectively. Is there an arbitrage opportunity at these prices? If so,
describe it and compute the profits per unit Answer: Let today be date 0,
and dates 1 and 2 be in 3-months and 6-months. The 3-month forward
contract on treasury bills can be replicated using spot transactions only
by:(a) Buying the 6-month T-bill, for its spot price of p0(2) = 0.95; (b)
Shorting F dollars of the 3-month T-bill. The short sale of F dollars of
3-month bills generates an inflow of F × p0(1) = 0.969388. The cash is
used to buy the 6-month bond. in the spot market. Note that the payoffs
from this strategy in 3 months time are equal to the spot price of the 6-
-The most flexible way to price forwards is to assume interest is continuously month bond, p1(2)which you own, minus the cash expended to close the
compounded we need only to use yearly interest rates :-The forward price in short position on the 3-month bill. The 3-month bill in 3-months time is
T years of an asset worth S0 today is F=S0^e(r+v-c-d)^T worth 1 dollar, so F dollars short cost F dollars to close.
The cash is used to buy the 6-month bond. in the spot market. Note that the
payoffs from this strategy in 3 months time are equal to the spot price of the 6-
month bond, p1(2)which you own, minus the cash expended to close the short
position on the 3-month bill. The 3-month bill in 3-months time is worth 1
dollar, so F dollars short cost F dollars to close. The net in 3-months time
equal p1(2) − F, which is exactly equal to the payoffs from buying the 6-
month forward over a 3-month horizon. No arbitrage implies that both
strategies that have the same payoff in period 1 (in 3 months time) must cost
the same in period 0 (today). Buying the bond forward is free today.

At F = 0.97 the forward is priced too cheaply relative to the current

spot prices. The implication is that the replicating portfolio must be
relatively expensive. In general, the way to profit without risk from a
cheap derivative, before its price increases, is to buy the derivative
while shorting the relatively expensive portfolio, whose price will
drop. Going long in the forward, and simulaneously shorting its
replicating portfolio (r.p.) should create a profit, i.e., it is an arbitrage
opportunity. The payoffs would be:

And using the dividend formula : F = (S+I)e^rt = -swap spread = swap rate – Treasury yield curve (on nous le donne
(9+0.17559)e^0.1x0.75 = 9.8902

Main benefit: risk management improves company-wide decision making the

firm CFOs wanted all levels of employees to recognise the importance of
those risks Want to instil a “risk-awareness” culture Second benefit: via more
stable earnings, RM provides cleaner signal to investors/managers about
company value ) enhances reputation -Key costs of RM: direct cost of
instruments, the lost opportunity to benefit from beneficial moves, explaining
it to the board.RM is not fully understood by senior managers! Almost half the
companies had no measures to judge performance of the risk management
function 40% had no idea how much RM adds to the value of their firm
-Risk sharing agrrement