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MIS 4500 (31)

Chapter 37.docx

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Management Info. Systems
MIS 4500
Pourang Irani

Chapter 37: Swaps Commodity swaps: fixed price of swap is weighted average of corresponding forward prices. n  P 0,tiF 0it F  i1 n  P 0,t i i1 n  Q t 0,t Fi 0,t i1 i i With varying quantities: F  n Q P 0,t  i1 i i For summer and winter varying: F s P 0,t Q  F w P 0,t Q  P 0,t Q F  P 0,t Q F isummer i i iwint er i ti isummer i ti 0,tiiwint er i ti 0,ti Because fixed swap payment equal, while the futures prices vary, the mismatch creates a borrowing/lending component. rT F 0,T S 0 Synthetic commodity: long forward plus zero coupon bond w/ face value equal to forward price Link b/w expected commodity price and forward price: F  E S e rT 0,T 0 T Nonstorability: Electricity:  different prices in summer and winter and in night and day Commodity Lease Rate: 1   l r  T ln F0,T S   Cash and carry arbitrage: borrow cash, buy commodity, lend commodity and short forward  Reverse cash and carry arbitrage: short commodity, lend cash, long forward  Contango occurs when lease rate is less than risk-free rate;  Backwardation occurs when lease rate is greater than risk-free rate  Carry: storage  Forward price with storage costs (like negative dividend; applies only when storage rT occurs): F 0,T  S0e rcT  Forward price factoring in convenience yield: F0,T  S 0 o Those who earn convenience yield likely already hold optimal amount of commodity; there may be no way for you to earn convenience yield when per
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