I am a part of the team which is responsible for management and hedging of commodities exposures. Some say corporates are good only in following advice from banks or brokerages. I do agree corporates do not have market insight of a bank. But here is a problem. It is not bank or broker or a hedge fund that has biggest risk that markets will go against them. These guys always have an option to do nothing and wait for a better trading opportunity where as we don't. We have to continue to purchase commodities, spend currencies for daily business. Such company is always exposed to changes to market price even if it decides not to hedge. In fact my company has probably one of the biggest short commodities portfolio in the world. Managing such risk effectively is a challenge. It is like being between a rock and a hard place. You get your behind kicked all the time be senior management, whether it was a missed opportunity to hedge or hedge that turned to be out of the money. Critics will say if you lost money on your hedge then you probably bought it cheaper on physical market. let's face it, nobody wants to loose money, full-stop.

So I do not have an option to do nothing as I am always in the position (short in this case). I think people like me have higher motivation to earn positive return on their portfolio then other players. In fact my intention is to bring hedging to a performance benchmark of proprietary trading.

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Sunday, November 14, 2010

Silence is golden, up until certain limit though

Well, this is my first post in over a month... Not taking into account recent 3 weeks vacation, the desire to keep this blog alive was overwhelmed by the fear of saying something stupid. No, I am not afraid to start talking against the trend and neither I fear to be wrong (up to certain limit though). I just did not know what to say and I honestly did not want to say anything I did not believe in.

This break allowed me however to focus on other things and I also had an opportunity to write a small article for an university magazine. I will publish it later as soon as it becomes public. This was a tough task as anything I write in this blog is, among others, simply a writing exercise - need to express my thoughts better.


Feeling of uncertainty prevails, so it is time to go back to page one in financial theory book - risk free rate. This is probably the most commonly used "constant" in finance. So what is it now? German or US bills? Just some years ago I would have said yes without any doubt. The problem is some years ago I was still in the university. The reality now is it is much safer to purchase not the US bills, but 10year bonds as US government will buy them as part of QE. And German bills are no longer so attractive as Irish and Portuguese bonds are. You can be sure that ECB will purchase them and make sure there is no default risk associated with them as we all can count on bailout without any loss to bond investors.

The reality is we do not know any more what risk free rate is. So how does DCF and Black and Scholes models should work then, if indeed Irish bonds are safer then the ones of Germany?
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