DFM 10
FINANCIAL RISK MANAGEMENT
Assignment-I
Assignment Code: 2017DFM10B1 Last Date of Submission: 15th November 2017
Maximum Marks: 100
Attempt all the questions.
SECTION – A (25 marks for each question)
1. a) Explain the concept of ‘derivatives’ as instruments of hedging risk. How are these
classified? [10]
b) List and explain the major functions of derivative markets. [7]
c) Identify the category of traders in the derivative market and their role. [8]
2. a) Today is December 12 and January futures would expire on 28 Jan. Spot rate in the
exchange market for dollar is Rs 45.45. The yields in the T-bills markets of India and USA are 5.90% and 2.45% respectively.
i) At what price Jan futures would be traded? [5]
ii) What would be the price of Feb futures if its expiry is on 24 Feb.? [10]
b) Current level of NSE Nifty is 9500. A 3-month Nifty futures contract is available at 9600. Risk-free rate is 10% and a yield of 8% per annum is expected on Nifty. Find out the fair value of the Nifty contract. What is the arbitrage opportunity? Find out the gain or loss to an investor if the Nifty value on the settlement date is 9200. [10]
Section-B (50 Marks)
Case Study
Zenith Ltd. (ZL) places an order to buy machinery with an American company. As per the agreement Zenith Ltd. Will be paying $2,00,000 after 180 days. The company (ZL) considers to use (i) forward hedge ; (ii) a money market hedge ; (iii) an option hedge; or (iv) no hedge. The consultant to Zenith Ltd. Collects and develops the following data/ information as desired by the company which can be used to assess the alternative approaches for hedging.
Spot rate of dollars as of today is Rs.47 /$
180 days forward rate of dollars as of today is Rs.47.50 /$
Interest rates are as follows:
India US
180 day deposit rate (p.a.) 7.5% 3%
180 days borrowing rate (p.a.) 8% 4%
Future spot rate in 180 days as estimated by the consultant is Rs.47.75 /$
A call option on the dollar, which expires in 180 days has an exercise price of Rs.47 and premium of Re. 0.52 /$
A put option on the dollar, , which expires in 180 days has an exercise price of Rs.47.50 and premium of Re. 0.40 /$
Required:
a) Carry out a comparative analysis of the various outcomes (Rupee cost of import)/ alternatives e.g. Forward hedge, money market hedge, and Option hedge. [35]
b) Decide which of the alternatives is the most attractive to Zenith Ltd. And provide reasons thereof. [15]
DFM 10
FINANCIAL RISK MANAGEMENT
Assignment-II
Assignment Code: 2017DFM10B2 Last Date of Submission: 15th November 2017
Maximum Marks: 100
Attempt all the questions.
SECTION – A (25 marks for each question)
1. a) What is an Option contract? Distinguish between call option and put option, with
examples. [10]
b) Explain the concept of option strategy for hedging risk and the broad categories of such strategies. Briefly discuss few of the option trading strategies for trading in the bullish market. [15]
2. The shares of RST Ltd. Are being quoted at Rs. 30 and the company is not expected to pay any dividend in next four months. The volatility of the price for this stock is 25%. An option with exercise price of Rs. 29 is maturing in 4 months. If the above option is European, find out the movement in the stock price at which the buyer of the above call option breaks even and the buyer of the above put option breaks even.
a) What is the price of the above call option if it is an American option? [12]
b) If a dividend of 50 paise is due in 1.5 months, what is the value of American Option? [13]
Section-B (50 Marks)
Case Study
The equity shares of Endalco Ltd. are currently selling at a price of Rs. 500 each. An investor is interested in purchasing the shares of Endalco Ltd. The investor expects that there is 80% chance that the price will go up to Rs. 650 or a 20% chance it will go down to Rs. 450, three months from now. There is a call option on the shares of Endalco Ltd. that can be exercised only at the end of three months at an exercise price of Rs.550. The risk-free rate is 12% per annum.
Answer the following:
a) If the investor wants a perfect hedge, what combination of the share and option should he
select? [12]
b) Explain how the investor will be able to maintain identical position regardless of the share price. [12]
c) How much the investor should pay for buying this call option today? [16]
d) What is the expected return on the option? [10]
FINANCIAL RISK MANAGEMENT
Assignment-I
Assignment Code: 2017DFM10B1 Last Date of Submission: 15th November 2017
Maximum Marks: 100
Attempt all the questions.
SECTION – A (25 marks for each question)
1. a) Explain the concept of ‘derivatives’ as instruments of hedging risk. How are these
classified? [10]
b) List and explain the major functions of derivative markets. [7]
c) Identify the category of traders in the derivative market and their role. [8]
2. a) Today is December 12 and January futures would expire on 28 Jan. Spot rate in the
exchange market for dollar is Rs 45.45. The yields in the T-bills markets of India and USA are 5.90% and 2.45% respectively.
i) At what price Jan futures would be traded? [5]
ii) What would be the price of Feb futures if its expiry is on 24 Feb.? [10]
b) Current level of NSE Nifty is 9500. A 3-month Nifty futures contract is available at 9600. Risk-free rate is 10% and a yield of 8% per annum is expected on Nifty. Find out the fair value of the Nifty contract. What is the arbitrage opportunity? Find out the gain or loss to an investor if the Nifty value on the settlement date is 9200. [10]
Section-B (50 Marks)
Case Study
Zenith Ltd. (ZL) places an order to buy machinery with an American company. As per the agreement Zenith Ltd. Will be paying $2,00,000 after 180 days. The company (ZL) considers to use (i) forward hedge ; (ii) a money market hedge ; (iii) an option hedge; or (iv) no hedge. The consultant to Zenith Ltd. Collects and develops the following data/ information as desired by the company which can be used to assess the alternative approaches for hedging.
Spot rate of dollars as of today is Rs.47 /$
180 days forward rate of dollars as of today is Rs.47.50 /$
Interest rates are as follows:
India US
180 day deposit rate (p.a.) 7.5% 3%
180 days borrowing rate (p.a.) 8% 4%
Future spot rate in 180 days as estimated by the consultant is Rs.47.75 /$
A call option on the dollar, which expires in 180 days has an exercise price of Rs.47 and premium of Re. 0.52 /$
A put option on the dollar, , which expires in 180 days has an exercise price of Rs.47.50 and premium of Re. 0.40 /$
Required:
a) Carry out a comparative analysis of the various outcomes (Rupee cost of import)/ alternatives e.g. Forward hedge, money market hedge, and Option hedge. [35]
b) Decide which of the alternatives is the most attractive to Zenith Ltd. And provide reasons thereof. [15]
DFM 10
FINANCIAL RISK MANAGEMENT
Assignment-II
Assignment Code: 2017DFM10B2 Last Date of Submission: 15th November 2017
Maximum Marks: 100
Attempt all the questions.
SECTION – A (25 marks for each question)
1. a) What is an Option contract? Distinguish between call option and put option, with
examples. [10]
b) Explain the concept of option strategy for hedging risk and the broad categories of such strategies. Briefly discuss few of the option trading strategies for trading in the bullish market. [15]
2. The shares of RST Ltd. Are being quoted at Rs. 30 and the company is not expected to pay any dividend in next four months. The volatility of the price for this stock is 25%. An option with exercise price of Rs. 29 is maturing in 4 months. If the above option is European, find out the movement in the stock price at which the buyer of the above call option breaks even and the buyer of the above put option breaks even.
a) What is the price of the above call option if it is an American option? [12]
b) If a dividend of 50 paise is due in 1.5 months, what is the value of American Option? [13]
Section-B (50 Marks)
Case Study
The equity shares of Endalco Ltd. are currently selling at a price of Rs. 500 each. An investor is interested in purchasing the shares of Endalco Ltd. The investor expects that there is 80% chance that the price will go up to Rs. 650 or a 20% chance it will go down to Rs. 450, three months from now. There is a call option on the shares of Endalco Ltd. that can be exercised only at the end of three months at an exercise price of Rs.550. The risk-free rate is 12% per annum.
Answer the following:
a) If the investor wants a perfect hedge, what combination of the share and option should he
select? [12]
b) Explain how the investor will be able to maintain identical position regardless of the share price. [12]
c) How much the investor should pay for buying this call option today? [16]
d) What is the expected return on the option? [10]
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