BAFI1026: Derivatives and Risk Management

  1. Trading philosophy:  Give an overview of your philosophy to form the portfolio. You should identify yourself as a value or growth investor or a mixture of both. Provide brief definitions for value/growth investing.
  2. Portfolio construction: Present your initial portfolio, including information on why you have invested in the stocks in your initial portfolio
    a) The overall market and macroeconomic condition
    b) Industry consideration and/or diversification, specific stock’s strengths/positive prospects
  3. Risk identification: In this part, you should discuss the risk profile of your portfolio. Use daily historical stock price between 1 October 2017 and 31 August 2022 to calculate the VaR of your Portfolio. The discussion should include the following points:
    a) Calculation and discussion of the one-day 5%-Value at Risk (95% confidence level) of each stock in your portfolio using a historical simulation approach. That means, if you have four stocks in total, you need VaR for each.
    b) Calculation and discussion of the five-day 1%-Value at Risk of your portfolio using a model- a building approach. Show key steps of workings.
    c) Calculation and discussion of the five-day 1%-Value at Risk of your portfolio using a historical simulation approach.
    d) Discuss the performance of VaR in (b) and (c), by comparing your calculated VaR results and the portfolios’ actual five-day returns
    e) Calculation and discussion of the 5%-Expected Shortfall (CVaR) (95% confidence level) of your portfolio using a historical simulation approach.
  4. Hedging using Options: 
    a) On any day between Thursday, 15 Sep 2022and the assessment due datehow will you use the option contract to hedge one of your three selected stocks in your Portfolio? You need to determine and explain which option you want to use. Provide justification for your decision. You can choose any stock from the three stocks you selected for the Portfolio.
    b) Discuss when you will exercise your option and its potential payoff.
  5. Hedging using CDS: You would like to include corporate bonds in your existing portfolio. To hedge the potential default risk, you decide to purchase CSD from Bank suppose that the risk-free zero curves is flat at 6% per annum with continuous compounding and that defaults can occur halfway through each year in a new five-year credit default swap. Suppose that the recovery rate is 35% and the default probability each year conditional on no earlier default is 3%. Assume payments are made annually.
    a) What is CSD? Is it risky?
    b) Estimate the credit default swap spread?
    c) The professionalism of the report.