Orange County Case - Orange OrangeCountyCase

Info iconThis preview shows pages 1–10. Sign up to view the full content.

View Full Document Right Arrow Icon
range County Case Orange County Case Using Value at Risk to Control Financial Risk y Professor Philippe rion By Professor Philippe Jorion http://merage.uci.edu/~jorion/oc/case.html
Background image of page 1

Info iconThis preview has intentionally blurred sections. Sign up to view the full version.

View Full DocumentRight Arrow Icon
hat happened? What happened? December 1994 Orange County announces In December 1994, Orange County announces that its investment pool had suffered a loss of 1 6 billion $1.6 billion . This loss was the result of unsupervised vestment activity of Bob Citron the County investment activity of Bob Citron, the County Treasurer, who was entrusted with a $7.5 illion ortfolio belonging to county schools billion portfolio belonging to county schools, cities, special districts and the county itself.
Background image of page 2
Background image of page 3

Info iconThis preview has intentionally blurred sections. Sign up to view the full version.

View Full DocumentRight Arrow Icon
ow did it happen? How did it happen? itron's main purpose was to increase current Citron s main purpose was to increase current income by exploiting the fact that medium term maturities had higher yields than short term investments. Increase the duration of the investment to pick up an extra yield Implication: Bob Citron was implementing a big bet that interest rates would fall or stay low.
Background image of page 4
eld Curve Play Yield Curve Play hat’s your prediction What s your prediction of movement in the interest rate in 1994? Current yield curve : Bloomberg
Background image of page 5

Info iconThis preview has intentionally blurred sections. Sign up to view the full version.

View Full DocumentRight Arrow Icon
Table 1. Maturity and Duration 8% Yield, 8% Coupon Bonds Maturity Duration (Years) (Years) .93 1 0.93 21 . 7 8 32 . 5 9 53 . 9 9 75 . 2 1 10 6.71 30 11.26
Background image of page 6
verage up Leverage up Leverage up through reverse repurchase agreements. ld d hi iti ll t l d it d th h pledged his securities as collateral and reinvested the cash in new securities, mostly 5 year notes issued by GSA, such as ``Fannie Mae'‘. Example: Investors put $100 million to buy a 5 yar note. Next, the ote can be pledged as collateral (in a reverse repo in note can be pledged as collateral (in a reverse repo in exchange) for cash. The cash can be used to invest in another $100 million 5 ar note This process can be repeated a second time for year note. This process can be repeated a second time, for a total holding of $300 million. As the initial investment was only $100 million, the leverage ratio is 3:1.
Background image of page 7

Info iconThis preview has intentionally blurred sections. Sign up to view the full version.

View Full DocumentRight Arrow Icon
verage up Leverage up Balance sheet of Orange County Investment pool (in the hypothetical example): Before the leverage up After the leverage up Asset Liability and quity Asset Liability and quity Equity Equity 5year notes: $100m Liability: $0m 5 year notes: $300m Liability: $200m (Reverse repo duration = 1 day) Equity: $100m Equity: $100m
Background image of page 8
verage and Duration Leverage and Duration Therefore, any price movement will be centuated by a factor of 3 In other words accentuated by a factor of 3. In other words, the portfolio duration is now 12: Price Change = 4 x $300 million x
Background image of page 9

Info iconThis preview has intentionally blurred sections. Sign up to view the full version.

View Full DocumentRight Arrow Icon
Image of page 10
This is the end of the preview. Sign up to access the rest of the document.

This note was uploaded on 02/29/2012 for the course FINANCE FIN 3117 taught by Professor Lina during the Spring '12 term at National University of Singapore.

Page1 / 25

Orange County Case - Orange OrangeCountyCase

This preview shows document pages 1 - 10. Sign up to view the full document.

View Full Document Right Arrow Icon
Ask a homework question - tutors are online