Risk Management

reducing systematic risk by changing operations? -> enhancing value, no impact on cashflow Risk management which reduces bankruptcy probability can create value in the amount of the present value of bankruptcy costs. Hedging to reduce the risk of large undiversified shareholders (LUS). Hedging to eliminate fluctuations of value due to forces that are not under management’s control Reduction of information asymmetries; better assessment of management performance Tax arguments: to smoothen income

Stock Exchange (Standardized contracts, No credit risk incurred for option buyer, High liquidity, high trading volumes, low transaction costs) Over the Counter (Individualized contracts, Offsetting hardly possible Credit risk for option buyer. Higher transaction costs, lower flexibility.)

S+P=C+X*e^(-rT)

V=(q*Vu+(1-q)*Vd)/(e^r_t)

q=(e^r_t-d)/(u-d)

e^(sigma*__t)

1/u

T=day/252 _t=T/steps in BT