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UNIVERSITY OF ALBERTA School of Business
Department of Finance and Statistical Analysis Finance 413 Fall 2018
Risk Management
Instructor: Dr. Cristina Infante, CFA Office: Room BUS 2-33
Email: [email protected]
Office hours: Thursdays 2:00 – 3:00 pm, or by appointment
Class section: A2 Class times: T R 3:30 pm – 4:50 pm Class Room: BUS 1 6
How to contact me
You may drop by during regular office hours or request an appointment. I am also usually available at the end of class. You may email me with any questions and I will answer your email by the end of the following business day. You are to use your University of Alberta email account and include FIN 413 in the subject heading.
Course Requirements, Evaluation Procedures and Grading System
Policy about course outlines can be found in Course Requirements, Evaluation Procedures and Grading System of the University Calendar:
https://calendar.ualberta.ca/content.php?catoid=28&navoid=6961#Evaluation_Procedures_and_Gradin g_System
Overview
This course examines the markets and valuation models for options and future contracts, and their application to hedging and valuation of other financial contracts. Most corporations and financial institutions face financial risks arising form changes in market variables such as interest rates, currency exchange rates, commodity prices and stock prices. Forwards, futures, options and other derivative products offer low transaction costs and new profit patterns and have become essential tools for hedging and controlling financial risks. Derivatives are widely used by corporations, financial
institutions, pension funds and several sovereigns are also using derivatives. Derivative securities are usually more complicated than traditional cash instruments such as stocks and bonds. There is a growing demand for individuals who are skilled in analyzing derivatives.
Learning Objectives
This course incorporates the Learning Goals of the Alberta BCom Program, in particular, Critical Thinking, Written Communication, and Quantitative Skills. The main purpose of this course is to provide students with a working knowledge of how derivatives can be used in managing financial risks. The course will show how to use and price these securities, describe the market in which they trade and examine how risk management contributes to firm value. Several cases will be used for students to place themselves in the role of a firm decision maker facing a financial risk management problem.
2 Course Prerequisites
FIN 301
Familiarity with basic statistical concepts such as mean, standard deviation and properties of the normal distribution
Ability to work in Excel
Students taking this course should enjoy working on mathematical problems. However, the course requires nothing more advanced than algebra
IMPORTANT: Learning and understanding derivatives can be challenging. The material is very
quantitative and is probably the most technical course in the Finance major. The course also requires a good understanding of the finance theory underlying the pricing of derivatives and the normative issues involved in their use. In addition, this course covers a large amount of material, so it is important for you to make a commitment to invest an appropriate amount of time and effort to be prepared ahead of class and keep up-to-date in your studies.
Required Materials
Textbook: Hull, John C. Fundamentals of Futures and Options Markets, Prentice Hall, ninth edition, 2017. The textbook comes with a Solutions Manual which can be purchased separately. Two copies of the textbook and one of the solutions manual are on Reserve at the University of Alberta
Winspear Business Library.
Course package: Includes cases for class discussions and assignments. You are to check the course webpage for information on how to get your course package.
Calculator. Bring a stand-alone calculator - not on a cellphone, tablet, iPad or computer - to every class. A financial calculator is not required, but your calculator should be able to raise a number to any power and have exponential and natural logarithmic functions.
Course materials. I will post course materials including reading list for journal articles, lecture outlines, and assignment questions on the course webpage as the term progresses for you to download. It is your responsibility to check the course web page for announcements, assignments and postings in preparation for each class. For class discussions or class handouts not posted on the course webpage, it is your responsibility to find a classmate who is willing to share their notes.
There will be a set of PowerPoint slides for each topic. My lectures will be based on these slides and you will find it helpful to review these overheads before class. I suggest you read The National Post, The Globe and Mail, or The Wall Street Journal daily. We will be talking about current stories on derivatives and risk management that arise during the term. All the articles discussed in class are exam material.
Grading
Your final grade will be based on the following components:
Midterm Exam 32%
Final Exam 48%
Assignments 25%
Class Contribution 5%
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Each of these assessments measures your critical thinking ability, your written communication skills, and your quantitative skills. You will need at least 50% of the total points and at least 40% of the total exam points to pass this class. Your course grade will be based on your absolute achievement and relative performance in the class. Class participation is encouraged and may be helpful to your learning. Class contribution may also be used to determine grades in borderline cases.
Exams (70%)
The Midterm Exam (32%) is a 70-minute exam that will take place during the class session on Thursday, October 14, 2018
The Final Exam (38%) is a 110-minute exam that will take place on Tuesday, December 18, 2018 at 2:00 pm. The University schedules final exams and it is your responsibility to find the date, time and place of the final exam.
Midterm exam questions are based on all the material covered including the lecture before the exam.
The Final Exam is cumulative in coverage. Exam questions may be short answers or long answers.
Computational problems may be different from the end-of-chapter problems. What is important is that you understand the solutions to these problems.
You may bring to the exam one “Student Notes” sheet of paper (8-1/2 x 11 inches or letter size) with anything you want written on it, using both sides. Bring a calculator which must be cleared of memory.
Your use of the text storage feature of your calculator will be a violation of the Code of Student Behaviour. You may not use notebooks, laptops, tablets, iPads, cellphones and other communication devices during exams even if you only intend to use these devices as clocks.
You must bring your Student Identification Card (the ONE card) to each exam.
Important Note for Exams: I will provide a sample Midterm Exam and the Final Exam on the course website. The material for the exams includes lectures, the relevant chapters in the textbook, required readings and cases. There are some chapter topics and assigned articles that may not be discussed in class. In preparing for exams, you are responsible for all the required articles and chapters in the textbook listed in the course outline. Exceptions will be announced in class.
You should bring to my attention your request to revise your grade on the Midterm Exam no later than the week after exam results have been returned to the class. Your request should include a written explanation why you believe more points are warranted and you must return your Midterm Exam together with your request for regrading. You should review the exam solution posted on the class website first. If you request a revised grade for the Midterm Exam, I will regrade the total exam and your final grade may be lower, higher or remain the same.
I will follow University regulations regarding absences from exams:
http://www.registrar.ualberta.ca/calendar-archive/calendar-2013-2014/Regulations-and- Information/Academic-Regulation/23.3.html
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Approval for excused absence for a missed exam is not automatic and is granted at the discretion of the instructor (in the case of term exams) or the student’s Faculty (in the case of final exams). Instructors and Faculties are not required to grant excused absences for unacceptable reasons. When a student is absent from an exam without an acceptable excuse, a final grade will be computed using a raw score of zero for the exam. Any student who applies for or obtains an excused absence by making false
statements will be subject to the Code of Student Behaviour.
To apply for an excused absence from an exam the student must notify me by email within two working days of the missed term exam or as soon as the student is able depending on the circumstances of the absence. The Instructor may request the student to provide supporting documentation. If there is no medical note available, or where the reason for the absence is something other than illness, Instructors can request students to visit their Faculty Office and obtain either a Statutory Declaration or a Faculty Form to outline the reasons for the absence. If you are unable to write the Midterm Exam and have an excused absence you will take a longer exam on the day of the Final Exam. The exam will count for 70%
of your course grade, and it will include the Final Exam questions and questions based on the material tested in the Midterm Exam. If you are unable to take the Final Exam you must apply to write a Deferred Exam. For more information on University procedures for applying for a deferred examination, consult the Business Undergraduate Office, or go to
https://www.ualberta.ca/business/programs/bachelor-of-commerce/current-students/exam-policy- procedures/deferred-exams If you are granted a deferred exam, the Deferred Exam date for this course will be given on February 8, 2019 at 1:00pm.
Assignments (25%)
There will be three assignments: Assignments 1 is a Problem Set that counts for 5% of the course grade.
Assignment 2 is a case from the coursepack. Your case assignment will be posted on the course webpage. The weights for each assignment are as follows:
Assignment Description Weight Due Date
Assignment 1 Problem Set 5% October 1
Assignment 2 Dominion Gas Holdings 10% November 2
Assignment 3 J&L Railroad 10% December 5
Total 25%
Cut-off time for submitting assignments is 2:30 pm of the due date.
You may work on the Assignments individually or in groups of no more than 3 members. Check the course webpage for details of each assignment. Submit one assignment per group, including a brief description of each member’s contribution to the assignment on the first page. I will assign the same grade to all members of the group. Case assignments must be typed. You are to submit your
Assignments to the FIN 413 course assignment slot outside of the General Office located on the third floor of the Business Building by the cut-off time of 2:30 pm on the due date. Late assignments will not be accepted and will receive a mark of zero. Email of assignments will not be accepted.
Important Note on Assignments and Lectures: Exam dates, assignment due dates and weights allocated to each component of the course grade are not flexible. Make-up or extra work to improve your grade
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is not possible. Missed classes are solely your responsibility. If you want to know what was covered in a class that you missed, including administrative announcements, or receive handouts from a class you missed, you are to find a classmate who attended class and is willing to share their notes.
Class Contribution (5%)
Class contribution is evaluated based on your participation In-Class Activities which may be discussion activities including a written commentary on topics discussed in class which will take place randomly throughout the term. Marked In-Class Activities count towards a total of 5% of your grade and may include a brief written component that is submitted in-class.
Class Learning Environment. A collaborative learning environment is helpful to student engagement and learning. Disruptive behaviour in class affects the class learning environment and is disrespectful to the Instructor and your classmates. The Code of Student Behaviour in 30.5.3 states: 30.5.3(1) “When a Student disturbs, disrupts, or otherwise interferes with classroom activities, the Instructor may
immediately exclude the Student from the course for that particular Class meeting…” Examples of disruptive behaviour in class are: texting, talking while Instructor is lecturing, reading from materials or websites not related to the lecture, sleeping, emailing, viewing or updating social media. Students who are being disruptive will be asked to leave the classroom and may have their class contribution marks reduced. All cell phones should be turned off or on silent and put away from your desk during class. If you are experiencing exceptional circumstances, check with your Instructor first.
Audio or Video Recording
Audio or video recording, digital or otherwise, of lectures, labs, seminars or any other teaching
environment by students is allowed only with the prior written consent of the instructor or as part of an approved accommodation plan. Student or instructor content, digital or otherwise, created and/or used within the context of the course is to be used solely for personal study, and is not to be used or
distributed for any other purpose without prior written consent from the content author(s).
Academic Integrity
“The University of Alberta is committed to the highest standards of academic integrity and honesty.
Students are expected to be familiar with these standards regarding academic honesty and to uphold the policies of the University in this respect. Students are particularly urged to familiarize themselves with the provisions of the Code of Student Behaviour (online at www.governance.ualberta.ca) to avoid any behaviour which could potentially result in suspicions of cheating, plagiarism, misrepresentation of facts and/or participation in an offence. Academic dishonesty is a serious offence and can result in suspension or expulsion from the University.”
Tentative Class Schedule
Topics for class discussion and required readings from the textbook (9th edition) and article list are included in the following tentative class schedule. Course material includes coursepack cases – Refer to the Reading list posted on eClass – and other material discussed in class. The schedule may be modified as the term progresses as some topics may require less or more time. I may add or drop topics and readings or alter the order of how we cover some of the topics as the course progresses.
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Dates Topic Readings
Week 1 Sep 4, 6
1. Introduction to Risk Management and Derivatives 2. Forward Contracts
Tuckman, Bruce, “Derivatives: Understanding their Usefulness and Their Role in the Financial Crisis,”
Journal of Applied Corporate Finance, Winter 2016, Volume 28, Number 1, pp. 62-71.
Hull Ch. 1
Hull Ch. 4, Sec. 4.1- 4.4, Appendix 4
Week 2 Sep 11, 13
3. Determination of Forwards and Futures Prices Hull Ch. 5 Week 3
Sep 18, 20
4. Futures Markets Hedging Using Futures
Hull Ch. 2 Hull Ch. 3, Appendix Week 4
Oct 2, 4
5. Interest Rate Forwards and Futures Assignment 1 Due - Oct 1
Hull Ch. 4, Sec. 4.5- 4.10 & Ch. 6 Week 5
Oct 9, 11
6. Swaps: Commodity, Interest Rate, Currency, and Equity Swaps
Hull Ch. 7 Week 6
Oct 16, 18
Swaps: Commodity, Interest Rate, Currency, and Equity Swaps
Hull Ch. 7 Week 7
Oct 23, 25
7. Options Markets
Mechanics of Options Markets Hull Ch. 9
Week 8 Oct 30, Nov 2
8. Option Pricing: Properties of Stock Options Black-Scholes Model and its Extensions Assignment 2 Due – Nov 1
Hull Ch. 10
Hull Ch. 13, 15 & 16 Week 9
Nov 6, 8
Trading Strategies Involving Options Option Pricing: The Binomial Model
Hull Ch. 11 Hull Ch. 12 Week 10
Nov 13, 15
9. Hedging Positions in Options Hull Ch. 17
Week 11 Nov 20, 22
10. Volatility Smiles and Limitations of Black-Scholes Hull Ch. 19 Case Discussion Week 12
Nov 27, 29
11. Reasons for Risk Management:
Froot et al., “A Framework for Risk Management,”
Journal of Applied Corporate Finance, Fall 1994, Volume 7, Issue 3, pp. 22-33.
Servaes, Tamayo and Tufano, “The Theory and Practice of Corporate Risk Management,” Journal of Applied Corporate Finance, Fall 2009, Volume 21, Number 4, pp. 60-78.
12. The Credit Crisis and Credit Derivatives & Securitization and the Credit Crisis of 2007-2008
Hull Ch. 23 Hull Ch. 8 Week 13
Dec 4, 6
Derivatives Mishaps and What We Can Learn
Lo, Andrew W. “The Three Ps of Total Risk Management,” Financial Analysts Journal, January/February 1999, pp. 13-27.
Assignment 3 Due – Dec 5
Hull Ch. 25
