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Finance-Risk management project

Author: Albert
May 29th, 2022

Outline for Risk Management Project C:

The Risk Management Project C consists of choosing, comparing, and contrasting three hedging strategies for a portfolio of equities:

  1. Individual Stock Options
  2. Stock Index ETFs
  3. Stock Index Futures

The paper should be no longer than 7 pages of text (with tables and charts allowed/required on additional pages). The project can be completed using Excel.

Part 1: Choosing Hedging Instruments

Assume (as in past projects) that you manage a $100 million portfolio comprised of $10 million invested in each of your ten stocks as of December 31, 2020.

You are worried about continuing short-term weakness for stocks, but you do not want to change your portfolio (you have a long-term bias). Start the paper by introducing what time frame you are choosing to hedge. Then,

  1. (~1.5 pages) For each of your 10 stocks, find three call contracts and discuss which would be best to hedge in a covered call position. Support with calculations.
  2. (~1.5 pages) For each of your 10 stocks, find three put contracts and discuss which one would be best to hedge in a protective put position. Support with calculations.
  3. (~1page)Compare hedging strategies for YOUR ENTIRE(equal-weighted) PORTFOLIO using the SPDR S&P 500 ETF Trust (SPY) and Invesco QQQ Trust (QQQ) (separately). Explain which you would use to hedge.
  4. (~1 page) Compare hedging strategies for YOUR ENTIRE (equal-weighted) PORTFOLIO using E-Mini S&P 500 and Micro E-mini Nasdaq-100 stock index futures (separately). Choose which option you would use and explain why.

Part 2: Efficient Hedging to Manage Costs (~1.5 pages)

Getting into and out of a hedge position can be costly. One important cost is the cost of liquidity, and more specifically the bid-ask spread. For each of your 4 strategies above,

  1. Compare the estimated bid-ask spread cost of hedging with the 10 calls in 1.A with the cost of hedging with the 10 puts in 1.B.
  2. Compare the estimated bid-ask spread costs of hedging your portfolio with index ETFs in 1.C with the cost of hedging with futures in 1D.
  3. Compare the estimated bid-ask spread costs of hedging individual stocks (1.A and 1.B) with hedging your complete portfolio (1.C and 1.D).
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