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nikoloff
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Joined: September 29th, 2014, 4:09 am

Hedging strategies

September 29th, 2014, 6:30 am

Hello everyone! This is my very first post here!I am first year studying portfolio management in an university. We have an end term homework on financial derivates with some questions to answer. Although I answered on most of them I still have two questions that I can't find information for. I'll be greatful if the community here helps me out.1. What is the most basic hedging strategy to insure the profit of a mutual fund? Why?2. During the financial crisis of 2008, in the first month after the market collapse, most of the investment funds' hedging strategies held up and the investors remained calm but in the next month even those strategies crashed. Why did this happen?I would like to thank you for your help in advance!
Last edited by nikoloff on September 28th, 2014, 10:00 pm, edited 1 time in total.
 
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Alan
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Hedging strategies

September 29th, 2014, 1:00 pm

1. "insure": diversify. "ensure": get out
 
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daveangel
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Hedging strategies

September 29th, 2014, 1:37 pm

1. agree with Alan2. I am not sure what the right sequence was but it could be that when the hedgers started getting worried about the solvency of the people they had bought their hedges from...
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acastaldo
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Hedging strategies

September 29th, 2014, 2:53 pm

Generalizing [and inspired by] daveangel's answer, I would say the hedges became hard to do for various reasons:(1) Extremely high implied vols, so puts are expensive. CDS are expensive (making Paulson rich), etc.(2) Doubts about the solidity of counterparties, daveangel's point; e.g. after AIG, Lehman events "who is next?"(3) "Uninsurable" type risks for certain mortgage securities containing toxic, nontransparent assets. (The academic distinction between "uncertainty" and "risk" comes into play; you can't insure against events that are poorly quantified or completely unquantifiable. A bit of the old joke "it is difficult to insure a house when it is already on fire". In theory it is very expensive, in practice it is essentially unavailable.)...so the [hypothesized] hedging simply could not be continued after a while. [Which shows that in the long run the two things Alan said are the only way practical ways to reduce risk].
Last edited by acastaldo on September 28th, 2014, 10:00 pm, edited 1 time in total.
 
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nikoloff
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Hedging strategies

September 30th, 2014, 4:58 am

Thank you very much! Extremely helpful!
 
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riskguru
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Joined: August 11th, 2004, 4:24 pm

Hedging strategies

October 2nd, 2014, 4:25 pm

QuoteOriginally posted by: acastaldoGeneralizing [and inspired by] daveangel's answer, I would say the hedges became hard to do for various reasons:(1) Extremely high implied vols, so puts are expensive. CDS are expensive (making Paulson rich), etc.(2) Doubts about the solidity of counterparties, daveangel's point; e.g. after AIG, Lehman events "who is next?"(3) "Uninsurable" type risks for certain mortgage securities containing toxic, nontransparent assets. (The academic distinction between "uncertainty" and "risk" comes into play; you can't insure against events that are poorly quantified or completely unquantifiable. A bit of the old joke "it is difficult to insure a house when it is already on fire". In theory it is very expensive, in practice it is essentially unavailable.)...so the [hypothesized] hedging simply could not be continued after a while. [Which shows that in the long run the two things Alan said are the only way practical ways to reduce risk].Restrictions on short sales certainly did not help things!
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