Assignment X1, Q1(d)(iv)

[studentactuary15]

Hi, in the marking scheme it mentions a the point "It also increases the chance of derivative prices moving against the company, after the terms have been set and before the money is invested".

Can someone please explain this point to me? Is it saying that the derivative value might be lowered due to the extension of the offer period?

 

[Em Francis]

Hi, in the marking scheme it mentions a the point "It also increases the chance of derivative prices moving against the company, after the terms have been set and before the money is invested".

Can someone please explain this point to me? Is it saying that the derivative value might be lowered due to the extension of the offer period?

Hi
This is just saying that because the terms have been agreed, ie X and Y, the matched derivative position is known. The company is therefore exposed to equities and/or interest moving and derivative prices increasing before investment. By extending the offer period from one month to two months, there is more opportunity for this to happen.

For example, if the company looks to purchase shares and put options (with exercise price equal to X% of the allocated amount) to match the maturity guarantee, and during the period equities fall and put option prices rise, then the company would have to spend more on its matching investment.


Hope this makes sense.


Thanks

Em