Lecture3_MGRM - NBA 6730: Derivative Securities...

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1 NBA 6730: Derivative Securities Metallgesellschaft AG 09/02/2010 George Gao NBA6730-Derivative Securities I 2 I. Overview Corporate History Major Business
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2 NBA6730-Derivative Securities I 3 Metallgesellschaft Refining & Marketing (MGRM) was the U.S. subsidiary of Metallgesellschaft AG (MGAG), a German industrial firm Deutsche Bank was the principal creditor and shareholder of MGAG back in 1992 MGRM’s business in financial service Sold 5-year and 10-year forward delivery contracts at fixed prices for petroleum products (e.g., heating oil and gasoline) Summer of 1993: energy price were low and falling Users wanted to lock in: retail gas suppliers, Chrysler, etc. The contracts were marked aggressively and successfully In 1993, MGRM built up long-term supply commitments of 160 million barrels At the time, the gross paper profit was about $3-4 per barrel: MGRM was the sole contractor offering the deals NBA6730-Derivative Securities I 4 II. Risk Major Risk for MGRM Possible Solutions
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3 NBA6730-Derivative Securities I 5 MGRM was exposed to the risk of oil price increase Because the firm Short long-term forward contracts What were possible solutions to hedge the risk Physical storage as a hedging strategy Financing costs: commit funds to immediate purchase oil Huge storage costs: oil tanks, warehouse, insurance, etc. Buy long-term oil futures contract They don’t exist (or not liquid enough)! (recall MGRM’s “innovation” and profit) Buy short-term futures contract and roll over them Stack-and-roll hedge
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This note was uploaded on 10/26/2010 for the course JOHNSON 6730 at Cornell University (Engineering School).

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Lecture3_MGRM - NBA 6730: Derivative Securities...

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