Explanation:
C is correct. This is a classic case of cash flow mismatch due to margin calls.
A is incorrect. This scenario happened to Northern Rock in 2007.
B is incorrect. This scenario happened to LTCM in 1998.
D is incorrect. Both forwards and futures can be used to hedge commodities exposure, but both can cause liquidity risk when a cash flow mismatch is present.
Learning Objective: Identify liquidity funding risk, funding sources, and lessons learned from real cases: Northern Rock, Ashanti Goldfields and Metalgesellschaft.
Reference: John C. Hull, Risk Management and Financial Institutions, 5th Edition (Hoboken, NJ: John Wiley & Sons, 2018). Chapter 24 - Liquidity Risk
Ultimate access to all questions.
A
Negative public perception of emergency borrowing from the central bank can cause a bank run.
B
Positive feedback trading in illiquid instruments can cause excessive losses.
C
Hedging liabilities by rolling forward futures contracts may create cash flow mismatches.
D
Futures provide a better effective hedge for hedging commodities exposure than forwards.
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