This audio is used for the transcriber test at GoTranscript. If I were you, I’d pay attention to the numbers.
There are two primary reasons to hedge. One is to read reduce your short-term cash flow volatility. Another is to maximize return on capital for whatever the investor’s target level of risk is. Many benefits are achieved if you successfully reduce cash flow volatility, the primary one being that nine times out of 10, the risk of bankruptcy can be reduced, which not only reduces the cost of borrowing but also makes lenders more willing to lend you any money, to begin with.
Furthermore, more accurate earnings forecasting is possible when hedging a company with more predictable earnings will in general be more valued by investors. If your company uses hedging to withstand short-term price movements, its management can then focus their energy more focus more fully on the company’s core competencies, doing what they are best at.
In 1997, a poll was done suggesting that 1700 people currently hedging against price fluctuations feel that in some ways, it’s a lot like gambling. But that’s not true at all. Gambling increases one’s risk profile by making a bet on price movements. By hedging, you’re doing the exact opposite, you’re reducing the risk profile of your organization. So don’t have some preconceived notion that the odds are somehow in your favour. Although some people are willing to ignore market movements and think that they think they’re making a safe choice.
By doing so they’ve actually chosen to turn a blind eye to market volatility, so it’s not at all a safe choice. Another thing worth mentioning is options. You can think of options as a kind of insurance against the price of a share in a company moving either up or down. And just like you would with regular insurance, an upfront premium payment needs to be paid to the seller of the option.
Though it’s important to remember that an option gives you the option hence the name, but not the obligation to buy or sell a share at a set price in the future. options can be priced using a variety of different mathematical models, the Black Scholes being the most common one. This model uses several assumptions about market behaviour when pricing an option.
For example, the ability to continuously hedge an option position. Even though this assumption makes sense. In theory, it’s not that realistic in a real-world scenario. However, it’s still one of the most popular models used by traders. Even Trader Joe, its frequent use, is largely explained in that it provides a quick closed-form solution. What other methods of pricing options such as Monte Carlo simulations require you to test a million possible different scenarios?
Did you know that in casinos, the probability of a sequence of either red or black occurring 26 times in a row is around one in 66 Point 6 million I didn’t, which is probably why I lose an average of 50 bucks a month of the track? If you’re a trader carrying a plethora of different options in your portfolio, Monte Carlo, or Santa Anita simulations can require enormous brute force computing power to carry out which is a lot of cases takes more time than is reasonable for you to spare.
This audio is used for the transcriber test at GoTranscript.