Introduction to Corporate Finance

(avery) #1
Ross et al.: Fundamentals
of Corporate Finance, Sixth
Edition, Alternate Edition

VIII. Topics in Corporate
Finance


  1. Risk Management: An
    Introduction to Financial
    Engineering


© The McGraw−Hill^815
Companies, 2002

Credit Risk Another important thing to remember is that with a forward contract, no
money changes hands when the contract is initiated. The contract is simply an agreement
to transact in the future, so there is no up-front cost to the contract. However, because a
forward contract is a financial obligation, there is credit risk. When the settlement date
arrives, the party on the losing end of the contract has a significant incentive to default on


CHAPTER 23 Risk Management: An Introduction to Financial Engineering 789

FIGURE 23.8


Risk Profile for an Oil
Buyer

Poil

V

Risk profile

FIGURE 23.9


Hedging with Forward
Contracts

Risk
profile

Poil

V

Payoff profile
for forward contract

Resulting
exposure
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