Financial Risk Management

Student Name Student ID Tutor NameAli Taqi 201000556

Ghassan AlsoudMohammed Haji 201100040Fatima Mohammed 201000393Marwa Malik 201000472

DJIA Consists of 30 “Blue-Chip” US stocks Best-known market indicator in the world

We have invested $1m in ETF (-2x) the daily average of DJIA

Introduction

- Investment Strategy: - Short Selling - Inverse ETF Short Position - (-2X) the DJIA - Invest $1,000,000

Main Characteristics

- Portfolio Chart - Using excel (using sum product

of ‘quantity’)

- Fluctuating but generally increasing

- Investor will profit at “low points”

Main Characteristics (continued)

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Performance Chart

Portfolio

- Basis Price: - It is the Actual Invested Amount 1) Capital x Weight (in decimal) to get

invested amount 2) Invested amount / Stock Price to

get the number of stocks 3) Round up the number of stocks 4) Number of Stocks (rounded up) x

Stock Price to get the Actual Invested Amount

Main Characteristics (continued)

Risks in US Stock market Monetary Policy by the Federal Reserve

Federal Reserve tightens the Monetary Policy and raise interest rates

Restrictive Monetary policy = weak stock performance

Expansionary Monetary Policy= strong stock Performance

The US dollar Wage stagnation

Market risk of inverse ETFs

Risky in long-term

Leverage issues Asset management responsibilitiesCounterparty risk Costlier than traditional ETFsLess tax-efficient

- Confidence Level: 5%, Holding Period: 1-Day 1) Calculate Profit/Loss (Daily Returns were

calculated for the Returns VaR) 2) Put them in order (highest losses to highest

profits) 3) Multiply total observations (251) by 5%, we’ll

get 12.55 4) [(Observation 13 - Observation 12) x 0.55] +

Observation 12 5) VaR = 319.01, (9833.179 for daily return VaR) 6) Use PERCENTILE for confirmation

Historical VaR

- Confidence Level: 5%, Holding Period: 1-Day, Z-Score (5%): 1.96

1) Find Mu (Average) of Profit/Loss (Daily Returns for daily return VaR)

2) Find Sigma (Standard Deviation) of Profit/ Loss (Daily Returns for daily return VaR)

3) Z-Score x Sigma – Mu 4) VaR = 394.7 , (11929.17 for daily return

VaR)

Linear VaR

- Historical VaR is more accurate because: - linear VaR cannot give the correct

estimation when it comes to extreme market events

- linear VaR does not take into account the skews, return distribution, and kurtosis

Comments on VaR

Inflation Interest rate Unemployment

The world economy

The relationship between Bonds & Interest rate

Investment portfolio of $100,000 is invested in US treasury securities.

30 years treasury Bond “CUSIP 912810QN1” 50% weight.

10 years treasury note “CUSIP 912828PX2” 50% weight.

Measuring Bond Risk

Duration.- It measures number of years needed to

refund the bond price by it internal cash flows

Dv01. - Measures how much the bond value will

change if the interest rate increased or decreased by 1 basis point.

Measuring Bond Risk

30 years treasury Bond “CUSIP 912810QN1”

Measuring Bond Risk

Description DataBond CUSIP 912810QN1Settlement date 15-Feb-11Maturity date 15-Feb-41coupon rate 4.75%Percent yield 4.75%Redemption value 100frequency ( 1 = annual, 2 = semiannual, 4 = quarterly) 2Basis (1 = Actual/actual, 2 = Actual/360, 3 = Actual/365, 4 = European 30/360) 1price 100Quantity 500

Bond Duration DV01 DV01912810QN1 16.28196651 79.52120397 0.15904257

Duration: 16.28 - The time required to refund the internal cash flow of the bond is 16 years and 3 months.- After 16 years and three months the fluctuations in interest rates doesn’t affect the portfolio value.Dv01: $79.52- The bond value will be changed by $79.52 if yield increased or decreased by 1 basis point.

10 years treasury note “CUSIP 912828PX2”

Measuring Bond Risk

Duration: 8.47- The time required to refund the internal cash flow of the bond is 8 years and 5 months.- After 8 years and 5 months the fluctuations in interest rates doesn’t affect the portfolio value.

Dv01: $41.45- The bond value will be changed by $41.45 if yield increased or decreased by 1 basis point.

Description DataBond CUSIP 912828PX2Settlement date 15-Feb-11Maturity date 15-Feb-21coupon rate 3.6250%Percent yield 3.6650%Redemption value 99.667623

frequency ( 1 = annual, 2 = semiannual, 4 = quarterly) 2

Basis (1 = Actual/actual, 2 = Actual/360, 3 = Actual/365, 4 = European 30/360) 1

Price 99.43646822Quantity 501

Bond Duration DV01 DV01912828PX2 8.473410655 41.45293307 0.082705747

Bond VaR

Value at Risk “VaR” Measures the worst possible of losses in

dollars that a portfolio expected to loss over period of time.

Var for the period from April 1, 2013 - March 31, 2014 with significant level of 5%.

Two type of VaR: Historical VaR Variance-Covariance

Returns are re-arranged from the worst to the best and suggest that the history it will show itself again.

Historical VaR

Assumes that portfolio returns are distributed normally.

Factors affect Variance-Covariance VaR :- Expected returns.- Standard deviation.

Variance-Covariance

Number of observation 250

250*5%= 12.512= ($891.06)13= ($889.03)($891.06)- ($889.03)= ($2.03)($2.03)*0.5=($1.01)($891.06)+ ($1.01)= ($892.08)

Significance Level 5%Confidence Level 95%

Historical VaR ($892.08)

The confident level is 95%.losses will not exceed 5%.The historical Var calculation is and var value is ($892.08)

Historical VaR

Variance-Covariance

  R1 R2R 0.03463 0.02234Slandered Deviation "Sigma" 0.219511803 0.411003577DV01 79.52120397 41.45293307Rho 0.815635113 Z of 5% significance level  1.64

Component1 Component2 Component3 Component41040.296776 0.604495838 0.380613366 0.375321341

VaR 978.99

The confident level of the portfolio is 95%, the portfolio expected 978 in one day 5% of the time.

- Types of investorsA) BullishB) Bearish- Option Spread

Trading Strategy

Credit risk - CVaR

Possibility that counterparty defaults United Parcel Service Inc. - ‘AA’ rating Delta Airlines – ‘A’ rating Verizon Communication Inc - ‘BBB’ rating Pennsylvania Elec. Co – ‘BBB’ rating Low default risk Chances that losses exceed $28343.22 less

than 1%

Conclusion ….

Thank you …