NAME: SYED AKIF ALI SHAH

ID: 021-18-43851
SUBMITTED TO: TALHA SHAHID
COURSE: TREASURY AND FUND MANAGEMENT

QUESTION 1:

Saudi Arabian crude oil is traded in BRENT through Aramco Trading. They Saudi oil is
supplied in form of Arabian light and Arabian heavy. Saudi oil is hedged through ICE
exchange. Whereas US oil is traded on NYMEX. The hedging strategies they use is Futures
and Options.

Crude oil futures:

Saudi oil is exported through future contracts. The importer have to sign a future contract and
book the oil in advance few months before the need arises so that at maturity the oil is
available for export to importing countries. It is a very liquid market and getting out is never
a problem.

Crude oil options:

Options is the way to lower the risk associated with situation of oil prices fluctuations. Oil
option gives the contractors the right to buy or sell but they are not obliged to exercise and if
they feel that they may not earn revenue from option them they may sell it. In an options
contract the parties mutually decide a specific for strike price for a pre-determined time. The
buyer of option contract has an option to opt for long or short position to speculate on its
price fluctuations. Purchasing options resemble buying insurance to mitigate price
fluctuations.

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QUESTION 2:

Foreign currency risk comes when company has to payment settlement has to be in foreign
currency. He has to buy foreign currency .Therefore importer has a need to buy foreign
currency. This poses a risk for the importers that the currency they are paying in will
fluctuate and the import will diminish its profits. The importers of Pakistan has the option to
invest in derivatives through authorized banks by state bank of Pakistan and in Pakistan stock
exchange. Pakistan currently has no derivative market instead; these derivate products are
offered to investors through banks. Following are the hedging instruments that can be used to
mitigate the risk of currency fluctuation.

1. Currency Forward:

Currency forward is a hedging instrument through which two individuals can enter into a
contract to lock in a price at the time of the contract and pay off the other party with the
currency at a date that has been decided with the rate at exercise date. These contracts are an
obligation for both the parties to honor the contract and cannot back out like option
derivatives. The importers has to evaluate the risk of currency fluctuation for the future rate
and then decide to contract with the other party. This currency forward is an OTC transaction
(over the counter) and will not be conducted through any derivative market.

2. Currency option:

Currency option is a derivate offered by many of the authorized banks of Pakistan for e.g.
MCB. Currency option is a contractual agreement between two parties to have a right to buy
or sell at exercise rate of currency at or before agreed upon period. The contractual parties do
not have the obligation to exercise their right at the maturity of the contract instead they
assess the foreign currency market and plan to exercise their right accordingly.

3. ETF:

ETF is a fund investment offered by Pakistan stock exchange, importer could invest in these
funds to overcome the currency fluctuations. These funds functions like mutual funds and
managed by UBL Pakistan Enterprise Exchange Traded Fund and NIT Pakistan Gateway.

4. Single stock cash settled futures (CSF):

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It is a hedging derivate option offered by Pakistan stock exchange to trade by buying and
selling in stocks that is settled through cash at the date of maturity. CSF like futures that are
managed by the brokerage houses overlooked by PSX, brokerage houses manage their
client’s shares at the cost of commission and settled with in seven to ninety days. The
revenues from CSF can be used to mitigate the effect of currency fluctuations.

QUESTION 3:

PIB’s are one of the safest option to hedge against increasing losses. The announcement of
new monetary policy reduces the interest earned from new PIBs therefore the investors have
moved to investing FRA (forward rate agreements) through banks for e.g. MCB. The banks
offers the FRA to lock the interest rate on today’s date and expect an increase in interest rate
in future and earn revenue. Secondly, they can hedge using interest rate futures contract,
which works a lot like FRA the only difference, is that it is more secure and the contract sizes
are fixed (uses no. of contracts) and pre-defined contract period.

QUESTION 4:

The international crude oil prices fall below $37 due to a number of reasons. First the
extraction of crude oil starts with drilling of wells and one the extraction has started it cannot
be stopped because the resumption of extraction requires huge sums of money. This results in
exhausting their storage capacity and oil producing countries have to extract the oil and sell it
in loss due to expiration of future contracts with other countries. The pandemic COVID-19
situation has worsen the economic situation globally which has decreased demand from
several oil importing countries, this also created a surplus reserves and brought the oil prices
down to negative $37 per barrel. The Saudi and Russian hostilities over production of oil has
further worsen the situation that brought the oil prices down.

This decrease in oil prices has effected both the importing and exporting countries. The
import countries loan burden eases, as they have to pay lesser amount of dollars and with
that, lower taxes imposed in those countries results in a better standard of living for the
importing countries. As for the exporting countries, if we take the example of Saudi Arabia
whose economy as oil export based, we can see that they have increased taxes in Saudi

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Arabia as opposed to tax deduction form importing countries in this pandemic of COVID-19
and these importing countries face economic recession.

QUESTION 5:

1. Lead time payment:

Payment on 1st march 2019:

Payment ($4000 x 144) = 576,000

Cost (576000 x 14% x 4/12) = 26880

Total cost (576000 + 26880) = 602880

Net payment under lead-time payment is 602880

2. Money market hedge:

Deposit= $4000/ (1+0.02 x 4/12) = $3973.5099

Convert to PKR:

$3973.5099 x 144 = 572185.4305

Total cost:

Principal 572185.4305

Interest 26701.98675

(572185.4305 x 14% x 4/12)

Net payment: 598887.4173

Effective rate: 59888.4173/$4000 = $149.7218

Gain: (154-149.7218) x 4000 = 17120.21

3. Forward rate (using borrowing interest rate)

Forward rate formula:

144x (1 + 14% x 4/12)

(1 + 3% x 4/12)

= $149.2277

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 Net payment: $149.2277 x $4000 = Rs.596910.8911

QUESTION 6:

Mr. Ahmed has vast knowledge of the stock market therefore he should become a broker
which will earn him commissions. Mr. Ahmed can invest in option with minimum to no
amount and buy option in PSX, this way he can back out of any uncertain loss situation
anytime and invest elsewhere. The alternative is to invest in futures market, which also he
will need to invest a minimum amount, and since it is regulated by PSX, it has very low risk
of non-payment.

QUESTION 7:

Amount deposited = 1000000

Forward rate agreement = 6 V 10

Bank A = [1000000 x 9% x 4/12] = 30,000

Bank B = [(1000000 x 3% x 4/12) / (1+3% x 4/12)] = 9900.99

Effective interest received = (30000 + 9900.99) = 39900.99

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