| Summary: | 碩士 === 國立政治大學 === 經營管理碩士學程(EMBA) === 99 === Early 2008 was a steep economic era when U.S. was enveloped by subprimemortgage crisis, world's economy was slowing down, and energy prices were pushed to a historical record high by oil geopolitical factors. Under this situation, an investmentbank designed a hybrid structure product, which includes a CMS Spread Snowball interest rate structured product with USD/JPY FX rate Knock out condition, a WTIoption of an additional upper limit, a USD/JPY exchange rate combined exotic option of upper and lower limits. After considering assets attributes and reviewing the relevant literature and recent research published in top journals related to the interest rate assetpricing model, Extended BGM model (Ting-Pin Wu, and Son-Nan Chen (2007)), forward curve model, and FX Rate model are selected as the basic pricing models. Tocalculate the expected theoretical value of this structured product, the unavailable model parameters of assets are estimated through the public market data based on thearbitrage-free concept, and the discounted values of the assets future cash flows are obtained by Monte Carlo simulation because of snowball interest rate structured product and path dependency characteristic and no close form solution in current relevant literature. The results of the pricing models shows that the net present value(NPV) received by customers is lower than that received by the investment bank, theconclusion is : Strongly recommend customers should not to do this trade !
In this case, the investment bank used a long position of one 5-year period CMSSpread Option with knock out condition, which implies Bearish on the economic cycle, and a short position of a 1-year period WTI option with up and low limits condition to construct this hybrid structure product. To draw customers’ attention to this proposal, the investment bank designed a knock out condition that seemed to be met very easily,but the price never touched by the article finished date. Additionally, a daily accrued
digital option is used to transfer WTI volatility to a semi-annual fixed yield over 10% that, compared to LIBOR Rate, is very high but actually is underestimated. For theSnowball structure product, the total profit depends on not only when but also, more importantly, how soon to meet the payment condition.
According to the asset pricing path generated by Monte Carlo simulation, the mode range which CMS Spread payment condition first met is 125 to 135 days after the contract’s value date, very close to the actually history data of 136 days. From pricing results, terms of contract implied that two different options combined to hedge risk and gain profit from each other. Hence, the investment bank does not need to make extrahedge strategy to WTI price which is impacted by more complicated risk factors.However, customer must spend hedge cost because of taking much risk as a sell option role. Under the Capital Charge regulation, to lock up the expected profit, what the investment bank needs to do is only to pay a very low cost fee, which like insurancepremium, to look for an intermediary bank to offer a back to back trade to manage thecredit risk caused by market risk!
During the research of this paper, I am amazed what an excellent art and strategy that designed by the investment bank based on financial engineering science! As this structure product appeared in this world, I estimated that it would worth 34,211,458.09 USD.
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