Question

Assume you are the manager of a financial institution. You are considering some strategies for hedging interest-rate risk. Would you prefer using futures or option contracts? Why?

Answer 1

Interset rate swaps allow companies to exchange interest payments on an amount agreed national amount for an agreed period of time. Swaps may be used to hedge against the adverse interest rate movements or to achieve a desired balanced between fixed and variable rayte debt. Deciding how to hedge interst rate risk begins with personal assement i.e what kind of fixed income investors are you?

Fortunately, there are different ways to manage a portfolio in a rising interest-rate environment. It is not just about reducing interst-rate risk duration, its about sticking to what you are trying to achieve in overall portfolio. Therefore some of the strategies for hedging interest-rate risk are:

• The Diversifier.
• The safe-Haven seeker.
• The One Who Wants It All.
• The Round Ladder-er.
• The Hedger.   

Yes , we would prefer using Future Contratcts . It is one of the most common derivatives used to hedge risk. A future contract is an arrangement between two parties to buy or sell an asset at particular time in future for a particula price. The main reason that companies use future contract is to offset their risk exposures and limit themselves from any fluctuations in price. The ultimate goal of an investor is using future contract to hedge perfectly offset their risk.