Financial Risk Manager Part 1
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An asset management firm's risk manager is conducting a scenario analysis to evaluate the effect of a potential interest rate change on a 2-year forward contract for stock MTE. The analysis uses the following parameters: the current price of stock MTE is USD 67.68, the risk-free interest rate is -0.70% per annum compounded annually, and the annualized dividend yield is 0.44%. The task is to find the most accurate estimate for the change in the forward contract's value per share of MTE if there is an immediate 1% increase in the risk-free interest rate, under the assumptions that the contract is fairly valued and dividends are reinvested.
Exam-Like
A
USD -1.46
B
USD -1.37
C
USD 1.34
D
USD 1.43
Explanation:
ExplanationC is correct. We first need to calculate the forward price: F = S*[(1+R)/(1+Q)]' = 67.68 *[(1+ -0.70% )/(1+ 0.44% )}° = USD 66.15 Now, for an existing contract, the value is S/(1+Q)T - K/(1+R), so if R changes by 1%, the new value is F = 67.68 [(1+0.30%) / (1+0.44%)]² = USD 67.49 And the difference is 67.49 - 66.15 = UsD 1.34. A is incorrect, -USD 1.46 is the result if R & Q are mixed up. B is incorrect, -USD 1.37 is the result of change in the risk-neutral forward price if R&Qaremixedup. D is incorrect. USD 1.43 is the change in the risk-neutral forward price for the equity
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