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The Six Dollar Fifty Man
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Introduction to Hedging Instruments: Forwards, Futures, Options, and Swaps Hedging instruments are financial tools used by businesses and investors to mitigate risk. These instruments help protect against adverse price movements in assets such as commodities, currencies, interest rates, or securities. The four main hedging instruments are forwards, futures, options, and swaps. 1. Forwards A forward contract is a customised agreement between two parties to buy or sell an asset at a predetermined price on a specified future date. Key Characteristics: Over-the-counter (OTC): Traded directly between parties, not on an exchange. Customisation: Can be tailored to suit the needs of the parties involved. Settlement: Occurs at the end of the contract, which may involve physical delivery or cash settlement. Risk: Forwards carry counter-party risk, as there is a possibility one party may default. Example: A company that needs to import raw materials in six months may enter into a forward contract to lock in the current price, avoiding the risk of price increases. 2. Futures A futures contract is similar to a forward, but it is standardised and traded on an exchange. This standardisation eliminates counter-party risk. Key Characteristics: Standardised: Contract size, expiration, and other terms are fixed by the exchange. Mark-to-market: Gains and losses are settled daily. Liquidity: Futures are highly liquid because they are traded on exchanges. Regulation: As they are traded on formal exchanges, they are more regulated than forwards. Example: A wheat farmer may sell futures contracts to hedge against a possible decline in wheat prices before harvest. 3. Options Options provide the right, but not the obligation, to buy or sell an asset at a specified price on or before a certain date. There are two types of options: call options and put options. Call Option: Gives the holder the right to buy an asset at a predetermined price. Put Option: Gives the holder the right to sell an asset at a predetermined price. Key Characteristics: Premium: The buyer pays a premium upfront to obtain the option. Limited Risk: The maximum loss is limited to the premium paid. Flexibility: Options can be used for speculative or hedging purposes. Example: An investor holding stocks may buy a put option to protect against potential declines in the stock's price. 4. Swaps A swap is a contract in which two parties agree to exchange cash flows or liabilities over a specific period. The most common types are interest rate swaps and currency swaps. Key Characteristics: Customizable: Like forwards, swaps are often tailored to meet the needs of the parties involved. Counterparty Risk: Swaps are typically OTC instruments, exposing parties to default risk. Common Uses: Used to manage interest rate risk or currency risk. Example: A company with a variablerate loan may enter into an interest rate swap to exchange its variable payments for fixedrate payments, thus locking in stable costs. Hedging instruments are essential for managing financial risk in volatile markets. Each instrument serves different purposes, with varying levels of complexity, risk, and customization. Whether through forwards, futures, options, or swaps, businesses can better plan for the future by reducing exposure to uncertain price fluctuations. Hedging Strategies for Market Risk, Credit Risk, and Currency Risk 1. Hedging Strategies for Market Risk Market risk (also known as systematic risk) arises from fluctuations in asset prices, such as stocks, bonds, commodities, and interest rates, due to economic factors or market volatility. Key Hedging Instruments for Market Risk: Derivatives (Options, Futures, and Forwards): These instruments allow investors to hedge against unfavorable price movements in stocks, commodities, or interest rates. Example: An investor holding a large stock portfolio might buy a put option to protect against a potential market downturn. If the market declines, the put option increases in value, offsetting losses in the portfolio. Short Selling: Investors can sell borrowed assets with the expectation of buying them back at a lower price, profiting from the decline. Example: A fund manager expecting a market decline may short sell stocks to hedge a portfolio against losses. Common Hedging Strategies: Portfolio Diversification: Reducing market risk by spreading investments across various asset classes (stocks, bonds, commodities) and sectors. Using Index Futures: Large portfolios can be hedged using index futures that track the performance of the overall market. If the market declines, profits from the short position in the futures contract will offset losses in the portfolio. Risk Parity: Allocating assets based on the level of risk rather than the dollar amount invested, balancing risk exposure across asset classes. 2. Hedging Strategies for Credit Risk Credit risk refers to the possibility that a borrower will default on a debt obligation. This is especially important for banks, lenders, and institutions dealing with bonds and loans. Key Hedging Instruments for Credit Risk: Credit Default Swaps (CDS): A financial derivative where the buyer of a CDS pays a premium to the seller in exchange for protection against a default on a loan or bond. Example: A bank holding corporate bonds can buy a CDS to ensure they are compensated if the issuing company defaults. Collateralised Debt Obligations (CDOs): These instruments pool together various debt instruments and allow risk to be distributed among multiple investors. Credit Insurance: Companies may use insurance to protect against the risk of a customer defaulting on payments. Common Hedging Strategies: Diversification of Loan Portfolio: Spreading out credit exposures across various industries, geographies, and borrower profiles reduces the overall risk of default. Tightening Lending Standards: Limiting exposure to highrisk borrowers by implementing stringent credit assessments. AssetBacked Securities: Banks can sell loans or bonds packaged as assetbacked securities to reduce their exposure to credit risk. 3. Hedging Strategies for Currency Risk Currency risk (or exchange rate risk) arises from fluctuations in foreign exchange rates, which can affect companies involved in international trade or with investments in foreign countries. Key Hedging Instruments for Currency Risk: Forward Contracts: A firm agrees to exchange a specified amount of currency at a predetermined exchange rate on a future date. Example: A U.S. exporter expecting payment in euros might enter into a forward contract to sell euros and lock in a favorable exchange rate. Currency Options: These give the right, but not the obligation, to buy or sell currency at a specific price. Example: A U.S.based company buying goods from Japan might buy a call option on the yen to hedge against the risk of yen appreciation. Currency Swaps: Two parties exchange interest payments and principal in different currencies to hedge against exchange rate fluctuations. Common Hedging Strategies: Natural Hedging: Companies can offset currency risk by balancing foreign revenue with costs in the same currency. For example, if a company generates revenue in euros, it can also incur expenses in euros, reducing exposure to exchange rate fluctuations. Multi-Currency Invoicing: Firms can invoice in their home currency, shifting the currency risk to the buyer. Currency Diversification: Holding a diversified basket of currencies can reduce exposure to large fluctuations in any one currency. Effective hedging strategies are crucial for managing various types of risks in financial markets. Market risk can be managed using instruments like futures and options, while credit risk can be mitigated through diversification and credit derivatives. Currency risk, often faced by multinational firms, can be hedged using forward contracts, options, or swaps. Each strategy helps firms and investors protect their portfolios, ensure financial stability, and reduce the impact of adverse movements in the financial markets. Portfolio Risk Management Techniques: Diversification, Asset Allocation, and Risk Budgeting Managing risk is a fundamental aspect of portfolio management. Investors use various techniques to control and reduce the risks inherent in investing. Three key techniques used in portfolio risk management are diversification, asset allocation, and risk budgeting. Each of these techniques helps in mitigating potential losses while aiming to achieve the desired return. 1. Diversification Diversification is a risk management strategy that involves spreading investments across different assets, sectors, or geographic regions to reduce exposure to any single risk. The idea is that different assets perform differently under various market conditions, so losses in one investment can be offset by gains in others. Key Benefits of Diversification: Reduction of Unsystematic Risk: Unsystematic risk, which is unique to a specific company or industry, can be reduced by holding a variety of investments that respond differently to market conditions. Improved Stability: A diversified portfolio is less volatile, as the negative performance of one asset can be balanced by the positive performance of others. Methods of Diversification: Across Asset Classes: Investing in a mix of asset classes such as stocks, bonds, commodities, and real estate. Example: A portfolio with 60% equities, 30% bonds, and 10% commodities is more diversified than one solely consisting of stocks. Within Asset Classes: Diversifying within a single asset class (e.g., holding stocks from different sectors like technology, healthcare, and energy). Geographic Diversification: Investing in assets across various countries or regions to mitigate country-specific risks. Example: Holding U.S. stocks along with emerging market equities can reduce risks related to a downturn in one country's economy. 2. Asset Allocation Asset allocation refers to the process of dividing investments among different asset classes (such as stocks, bonds, and cash) to align with an investor's risk tolerance, time horizon, and financial goals. Asset allocation plays a crucial role in portfolio risk management by determining the overall risk-return profile of the portfolio. Key Elements of Asset Allocation: Strategic Asset Allocation: A longterm approach that involves setting target allocations for different asset classes based on financial goals and risk tolerance. Example: A young investor with a longterm horizon might allocate 70% to stocks, 20% to bonds, and 10% to cash. Tactical Asset Allocation: A more active approach that involves adjusting the asset mix in response to short-term market conditions. Example: If the investor expects an economic downturn, they might temporarily reduce exposure to equities and increase exposure to bonds. Types of Asset Allocation Models: Conservative: Focuses on preserving capital with a larger allocation to bonds and cash (e.g., 20% stocks, 80% bonds). Balanced: A moderate risk approach with an equal focus on growth and income (e.g., 50% stocks, 50% bonds). Aggressive: Targets higher returns by investing predominantly in equities, accepting higher risk (e.g., 80% stocks, 20% bonds). Example of Asset Allocation: A 40 year old investor with moderate risk tolerance may allocate their portfolio as follows: 50% equities, 40% bonds, and 10% in alternative investments such as real estate or commodities. The equities provide growth potential, while the bonds and alternative assets offer stability and income. 3. Risk Budgeting Risk budgeting is a method of allocating risk across different components of a portfolio, rather than focusing solely on returns. The goal is to optimise the portfolio’s risk-return profile by distributing risk in a way that aligns with the investor’s objectives and risk tolerance. Key Concepts of Risk Budgeting: Risk Contribution: Each asset class or investment in the portfolio contributes a certain amount of risk (measured by metrics such as volatility or Value at Risk). Risk budgeting ensures that no single asset class dominates the overall risk of the portfolio. Example: A portfolio may contain 60% stocks and 40% bonds, but if the stocks are highly volatile, they may contribute 90% of the portfolio's risk. Target Risk: Investors set a maximum acceptable level of risk (e.g., a portfolio volatility of 10%) and allocate investments so that the total risk remains within this target. Techniques in Risk Budgeting: Risk Parity: Allocates risk evenly across asset classes, rather than allocating capital based solely on return expectations. Example: In a risk-parity portfolio, both bonds and stocks might be balanced in such a way that they contribute equally to the overall portfolio risk, even though the dollar investment in bonds may be larger due to their lower volatility. Value at Risk (VaR): This technique measures the potential loss in a portfolio over a specific time period, under normal market conditions, at a given confidence level. The risk budget ensures that the potential loss stays within acceptable limits. Example of Risk Budgeting: An investor targets an overall portfolio risk of 8% volatility. After analyzing the risk contribution of each asset class, they determine that equities, which currently make up 60% of the portfolio, contribute 70% of the risk. To adhere to the risk budget, the investor may reduce their equity exposure and increase their allocation to bonds or other less volatile assets. Diversification, asset allocation, and risk budgeting are complementary techniques used in portfolio risk management. Diversification reduces unsystematic risk by spreading investments across various assets. Asset allocation ensures that investments align with an investor's goals and risk tolerance. Risk budgeting focuses on managing the contribution of risk from each asset class to create a balanced and efficient portfolio. Together, these strategies help investors achieve a balance between risk and return, ensuring longterm portfolio stability. Risk Mitigation Through Insurance, Securitisation, and Other Financial Engineering Techniques Risk mitigation is a core objective in financial management, and various strategies can be employed to reduce or manage risks. Three major approaches are insurance, securitisation, and financial engineering techniques. Each of these methods helps firms and individuals transfer, reduce, or eliminate certain financial risks. 1. Insurance as a Risk Mitigation Tool Insurance is a traditional risk transfer method that protects against financial losses by shifting the risk to an insurance company in exchange for premium payments. It is widely used to mitigate various forms of risk, such as operational, liability, and property risks. Key Aspects of Insurance for Risk Mitigation: Risk Transfer: The insurer takes on the risk in exchange for a premium, thus protecting the insured party from unexpected financial losses. Indemnity: In the event of a loss, the insurance policy compensates the insured based on the terms of the contract. Customisable Coverage: Insurance policies can be tailored to address specific risks, such as property damage, business interruption, liability, or cyber risks. Types of Insurance for Businesses: Property and Casualty Insurance: Covers physical assets like buildings, machinery, and inventory from risks like fire, theft, or natural disasters. Liability Insurance: Protects businesses against legal liabilities arising from accidents, negligence, or professional errors. Business Interruption Insurance: Compensates for lost income if a business has to halt operations due to unforeseen events. Credit Insurance: Shields companies from losses due to the nonpayment of trade receivables. 2. Securitisation as a Risk Mitigation Technique Securitisation is a financial engineering process that involves pooling various financial assets (such as loans, mortgages, or receivables) and converting them into marketable securities. This process allows firms to transfer risk to investors, thereby reducing their exposure. Key Elements of Securitisation: Risk Transfer: By securitising assets, companies can transfer the risk of default or nonpayment to investors who purchase the securities. Liquidity Creation: Securitisation converts illiquid assets (like mortgages or loans) into liquid, tradeable securities, improving cash flow for the originating firm. Diversification of Risk: Pooling assets with different risk profiles reduces the impact of individual defaults, spreading the risk across multiple investors. Common Forms of Securitisation: MortgageBacked Securities (MBS): Pools of mortgages are bundled and sold as securities to investors, transferring the risk of mortgage defaults. Example: A bank that issues home loans can bundle those loans into MBS and sell them to investors, transferring the credit risk of potential defaults. Asset-Backed Securities (ABS): Similar to MBS, but backed by other types of assets like credit card receivables, auto loans, or student loans. Collateralised Debt Obligations (CDOs): Structured financial products that pool different types of debt, such as loans and bonds, and sell them as securities with varying risk levels. Example: A bank may issue a portfolio of auto loans and then pool these loans into an assetbacked security (ABS). The ABS is sold to investors, who take on the risk of loan defaults. By securitising the loans, the bank reduces its exposure to credit risk and generates immediate cash flow. 3. Financial Engineering Techniques for Risk Mitigation Financial engineering involves the use of complex financial instruments, derivatives, and structured products to manage or mitigate financial risks. These techniques allow firms to hedge against specific risks, optimize capital structure, and improve financial stability. Common Financial Engineering Techniques: Derivatives: Financial instruments like futures, forwards, options, and swaps are used to hedge against price fluctuations, interest rate changes, or currency movements. Example: A company with significant foreign exchange exposure may use currency forwards or options to hedge against exchange rate fluctuations, ensuring predictable cash flows. Options and Futures: Options: Provides the right (but not the obligation) to buy or sell an asset at a predetermined price, allowing firms to hedge against unfavorable price movements. Example: An airline company can buy options on jet fuel to hedge against rising fuel prices. Futures: Standardized contracts to buy or sell an asset at a set price on a future date, commonly used to hedge commodities or financial assets. Example: A wheat producer may use futures contracts to lock in a favorable price for its crop, hedging against a potential price drop. Swaps: These involve the exchange of cash flows between two parties, often used to manage interest rate risk or currency risk. Interest Rate Swaps: Firms can exchange floatingrate interest payments for fixedrate payments to hedge against rising interest rates. Currency Swaps: Used to hedge exchange rate risk in crossborder transactions by exchanging principal and interest payments in different currencies. Example: A company with a variablerate loan may enter into an interest rate swap to exchange its variable payments for fixedrate payments, locking in stable costs. Structured Products: These are customised financial instruments designed to achieve specific riskreturn objectives. They often combine derivatives with other securities to create tailored risk exposures. Example: A structured note that combines a bond with an embedded option, offering downside protection while allowing for potential upside linked to the performance of an equity index. Credit Derivatives: Tools like credit default swaps (CDS) allow investors to transfer credit risk to other parties. Example: A bondholder worried about a company’s potential default may purchase a CDS, which pays out in case of a default event. Example: A company may issue a bond with an embedded call option, allowing it to repurchase the bond if interest rates decline. This financial engineering tool enables the company to mitigate the risk of rising interest rates, reducing future borrowing costs. Risk mitigation through insurance, securitisation, and financial engineering offers businesses a variety of tools to manage and transfer risks. Insurance allows for the direct transfer of risk to an insurer, while securitisation helps companies offload risk by packaging and selling assets as securities. Financial engineering techniques, including derivatives, swaps, and structured products, provide sophisticated ways to hedge market, interest rate, and currency risks. Each approach helps organizations improve financial stability, enhance liquidity, and manage potential losses in a volatile market environment.When this lady died I descended like real estate in fee simple to her son Benjamin Stiles, Esq[uire]. About four years after her death, her two sons, Benjamin and David, were drafted to fight in the revolution. I also entered the banners of freedom. Alas! Poor African Slave, to liberate freemen, my tyrants. I had contemplated going to Barbados to avenge myself and my country… I went into Capt. [Samuel] Granger’s company, from hence I was drafted into Capt. [Samuel] Barker’s company of light infantry… ...I suddenly discovered a man riding up to me not more than eight rods distant on full speed with a pistol in his hand and ordered me to lay down my arms [weapons]... He said I must surrender to him who demanded me in the name of the King his majesty of Great Britain. I then plainly told him that neither him or his King’s majesty would get my arms unless he took them by force. He immediately cocked his pistol and fired. I fell flat upon the ground in order to dodge his ball… ...Finally, I was in the battles at Cambridge, White Plains, Monmouth, Princeton, Newark, Frog’s Point, Horseneck where I had a ball pass through my knapsack. All which battles the reader can obtain a more perfect account of in history than I can give. At last we returned to West Point and were discharged [1783], as the war was over. Thus was I, a slave for five years fighting for liberty. ...After we were disbanded, I returned to my old master at Woodbury [Connecticut], with whom I lived one year, my services in the American war having emancipated me from further slavery and from being bartered or sold. My master consented that I might go where I pleased and seek my fortune. Hearing flattering accounts of the new state of Vermont, I left Woodbury and travelled as far as the town of Lenox in Massachusetts, where for the first time I made a bargain as a freeman for labor. I let [hired] myself to a Mr. Elisha Orsborn for one month at the price of five dollars. When I had fulfilled this contract, I travelled to the town of Poltney in Vermont. There again I let myself to a Mr. Abiel Parker for the sum of thirteen pounds ten shillings, for six months. Here I enjoyed the pleasures of a freeman; my food was sweet, my labor pleasure: and one bright gleam of life seemed to shine upon me. Translator: Joseph Geni Reviewer: Morton Bast Before March, 2011, I was a photographic retoucher based in New York City. We're pale, gray creatures. We hide in dark, windowless rooms, and generally avoid sunlight. We make skinny models skinnier, perfect skin more perfect, and the impossible possible, and we get criticized in the press all the time, but some of us are actually talented artists with years of experience and a real appreciation for images and photography. On March 11, 2011, I watched from home, as the rest of the world did, as the tragic events unfolded in Japan. Soon after, an organization I volunteer with, All Hands Volunteers, were on the ground, within days, working as part of the response efforts. I, along with hundreds of other volunteers, knew we couldn't just sit at home, so I decided to join them for three weeks. On May the 13th, I made my way to the town of Ōfunato. It's a small fishing town in Iwate Prefecture, about 50,000 people, one of the first that was hit by the wave. The waters here have been recorded at reaching over 24 meters in height, and traveled over two miles inland. As you can imagine, the town had been devastated. We pulled debris from canals and ditches. We cleaned schools. We de-mudded and gutted homes ready for renovation and rehabilitation. We cleared tons and tons of stinking, rotting fish carcasses from the local fish processing plant. We got dirty, and we loved it. For weeks, all the volunteers and locals alike had been finding similar things. They'd been finding photos and photo albums and cameras and SD cards. And everyone was doing the same. They were collecting them up, and handing them in to various places around the different towns for safekeeping. Now, it wasn't until this point that I realized that these photos were such a huge part of the personal loss these people had felt. As they had run from the wave, and for their lives, absolutely everything they had, everything had to be left behind. At the end of my first week there, I found myself helping out in an evacuation center in the town. I was helping clean the onsen, the communal onsen, the huge giant bathtubs. This happened to also be a place in the town where the evacuation center was collecting the photos. This is where people were handing them in, and I was honored that day that they actually trusted me to help them start hand-cleaning them. Now, it was emotional and it was inspiring, and I've always heard about thinking outside the box, but it wasn't until I had actually gotten outside of my box that something happened. As I looked through the photos, there were some were over a hundred years old, some still in the envelope from the processing lab, I couldn't help but think as a retoucher that I could fix that tear and mend that scratch, and I knew hundreds of people who could do the same. So that evening, I just reached out on Facebook and asked a few of them, and by morning the response had been so overwhelming and so positive, I knew we had to give it a go. So we started retouching photos. This was the very first. Not terribly damaged, but where the water had caused that discoloration on the girl's face had to be repaired with such accuracy and delicacy. Otherwise, that little girl isn't going to look like that little girl anymore, and surely that's as tragic as having the photo damaged. (Applause) Over time, more photos came in, thankfully, and more retouchers were needed, and so I reached out again on Facebook and LinkedIn, and within five days, 80 people wanted to help from 12 different countries. Within two weeks, I had 150 people wanting to join in. Within Japan, by July, we'd branched out to the neighboring town of Rikuzentakata, further north to a town called Yamada. Once a week, we would set up our scanning equipment in the temporary photo libraries that had been set up, where people were reclaiming their photos. The older ladies sometimes hadn't seen a scanner before, but within 10 minutes of them finding their lost photo, they could give it to us, have it scanned, uploaded to a cloud server, it would be downloaded by a gaijin, a stranger, somewhere on the other side of the globe, and it'd start being fixed. The time it took, however, to get it back is a completely different story, and it depended obviously on the damage involved. It could take an hour. It could take weeks. It could take months. The kimono in this shot pretty much had to be hand-drawn, or pieced together, picking out the remaining parts of color and detail that the water hadn't damaged. It was very time-consuming. Now, all these photos had been damaged by water, submerged in salt water, covered in bacteria, in sewage, sometimes even in oil, all of which over time is going to continue to damage them, so hand-cleaning them was a huge part of the project. We couldn't retouch the photo unless it was cleaned, dry and reclaimed. Now, we were lucky with our hand-cleaning. We had an amazing local woman who guided us. It's very easy to do more damage to those damaged photos. As my team leader Wynne once said, it's like doing a tattoo on someone. You don't get a chance to mess it up. The lady who brought us these photos was lucky, as far as the photos go. She had started hand-cleaning them herself and stopped when she realized she was doing more damage. She also had duplicates. Areas like her husband and her face, which otherwise would have been completely impossible to fix, we could just put them together in one good photo, and remake the whole photo. When she collected the photos from us, she shared a bit of her story with us. Her photos were found by her husband's colleagues at a local fire department in the debris a long way from where the home had once stood, and they'd recognized him. The day of the tsunami, he'd actually been in charge of making sure the tsunami gates were closed. He had to go towards the water as the sirens sounded. Her two little boys, not so little anymore, but her two boys were both at school, separate schools. One of them got caught up in the water. It took her a week to find them all again and find out that they had all survived. The day I gave her the photos also happened to be her youngest son's 14th birthday. For her, despite all of this, those photos were the perfect gift back to him, something he could look at again, something he remembered from before that wasn't still scarred from that day in March when absolutely everything else in his life had changed or been destroyed. After six months in Japan, 1,100 volunteers had passed through All Hands, hundreds of whom had helped us hand-clean over 135,000 photographs, the large majority — (Applause) — a large majority of which did actually find their home again, importantly. Over five hundred volunteers around the globe helped us get 90 families hundreds of photographs back, fully restored and retouched. During this time, we hadn't really spent more than about a thousand dollars in equipment and materials, most of which was printer inks. We take photos constantly. A photo is a reminder of someone or something, a place, a relationship, a loved one. They're our memory-keepers and our histories, the last thing we would grab and the first thing you'd go back to look for. That's all this project was about, about restoring those little bits of humanity, giving someone that connection back. When a photo like this can be returned to someone like this, it makes a huge difference in the lives of the person receiving it. The project's also made a big difference in the lives of the retouchers. For some of them, it's given them a connection to something bigger, giving something back, using their talents on something other than skinny models and perfect skin. I would like to conclude by reading an email I got from one of them, Cindy, the day I finally got back from Japan after six months. "As I worked, I couldn't help but think about the individuals and the stories represented in the images. One in particular, a photo of women of all ages, from grandmother to little girl, gathered around a baby, struck a chord, because a similar photo from my family, my grandmother and mother, myself, and newborn daughter, hangs on our wall. Across the globe, throughout the ages, our basic needs are just the same, aren't they?" Thank you. (Applause) (Applause)The Six Critical SystemsThe Six Essential NutrientsThe Six trigonometric RatiosThe six articles of faithThe Six Kingdoms