Illustrates an example of delta hedging
Illustrates an example of delta hedging.
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The ‘underlying’ within a delta-hedged portfolio could be a traded asset, for illustration, a stock or it could be other random quantity that finds a price such as a risk of default. When you have two instruments depending upon the same risk of default, you can compute the sensitivities, the deltas, of their prices to this quantity and after that buy the two instruments in amounts inversely proportional to such deltas (one long, one short). It is also delta hedging.
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Good fellow national bank decided to compete with a savings and loan by offering 30 year fixed rate mortgage loans at 8% annual interest. It plans to obtain the money got the loans by selling one year 6% CD to it's depositors. During first year of operation, good fellows sold it's depositors 1,000,0
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