RISK MANAGEMENT

FIN 562 Winter 2021 Midterm Project

The project is worth 50 points. Each question is worth 10 points. There is an extra credit question at

the end worth 5 points for a total of 55 possible points.

The questions relate to chapters 1,3,4,5, & 8 of the Hull book.

If you have any calculations, please show them in your answers.

When completed, please submit a word document with the answers in the “Midterm Project”

submissions folder of D2L.

The project is due by 11:59 PM Central Time on Monday, February 15th

1. A portfolio manager has maintained an actively managed portfolio with a beta of 0.1. During the

last year, the risk-free rate was 2.5% and major equity indices performed very badly, providing

returns of about −35%. The portfolio manager produced a return of −12% and claims that in the

circumstances it was good.

A) What is the expected return on a portfolio with a beta of 0.1? (Show your calculation) B) Discuss this claim, was it a good return, why or why not?

2.

During a certain year, interest rates fall by 300 basis points (3%) and equity prices are flat. Discuss

the effect of this on a defined benefit pension plan that is 60% invested in equities and 40% invested

in bonds. (Show any calculation)

3.

In the following five years an investment earns the following returns: 10%, 5%, -3%, -8%, and 11%

in successive years. What is the investor’s overall return for the five years? (Show your calculation)

4.

The price of gold is currently $1,400 per ounce. The forward price for delivery in one year is

$1,650. An arbitrageur can borrow money at 3% per annum. What should the arbitrageur do and

why? Assume that the cost of storing gold is zero and that gold provides no income. (Show any

calculations)

5.

The gamma and vega of a delta-neutral portfolio are 50 per $ per $ and 25 per %, respectively.

Estimate what happens to the value of the portfolio when there is a shock to the market causing the

underlying asset price to decrease by $3 and its volatility to increase by 4%. (Show any

calculations).

Extra Credit

What position is equivalent to a long forward contract to buy an asset at K on a certain date and a

long position in a European put option to sell it for K on that date? (Show any calculations)