Financial Risk Management - PDF

Running head: FINANCIAL RISK MANAGEMENT
Financial Risk Management
Name of the Student:
Name of the University:
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Table of Contents
Section I:....................................................................................................................................2
a) Stating the specific financial risk exposure faced by Medusa Mining Ltd, which might
hamper its revenue generation capability:..................................................................................2
b) The recommendations on the hedging percentage and process that needs to be followed by
Medusa mining company:..........................................................................................................7
Section II:...................................................................................................................................8
c) Stating the recommendations on derivatives instruments for implementing the hedges:......9
d) Evaluating the recommendation regarding the 60% hedge in November and December
production of copper:...............................................................................................................10
Section III:................................................................................................................................12
e) Developing an adequate combination or option spread strategy to produce copper
minimising the negative impact from price decline:................................................................12
Reference and Bibliography:....................................................................................................14

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Section I:
a) Stating the specific financial risk exposure faced by Medusa Mining Ltd, which might
hamper its revenue generation capability:
From the evaluation of the operations of Medusa mining Limited it could be identified
that it has different levels of financial risk, which might directly impact its overall operational
capability. The company is relatively focused on producing two specific metals such as gold
and copper who is overall price in the market fluctuates adequately. from the evaluation it
could be identified that there is different level of risk such as interest rate risk, commodity
market risk, and foreign exchange risk affecting the operational capability the organization.
The thorough elaboration on the financial risk of the company is effectively depicted as
follows.
Commodity Market Risk:
Figure 1: Stating the price trend of gold
(Source: Provident Metals Online 2018)
The commodity market risk is relatively affected by the changing prices of gold
which is depicted in the above figure. The prices of gold have relatively changed during the

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past 1 year, as depicted in the above figure. This change and volatility in the prices of gold is
directly affecting the overall revenue generation capability of Medusa mining Limited. the
company is not able to identify a perfect price structure in which it could maximize profit
from the gold production. the continuous decline in the prices of gold can be seen from April
where a barrier is being set and the prices are not able to break a certain limit. this indicates a
down trend in the overall prices of gold, which is relatively not effective for the Medusa
mining company. the company needs to sell 14,200 ounces of gold by the end of December
as it will be producing them during July to December. Furthermore, the prices of gold is
relatively declined from the levels of $1,340 to $1,312, which indicates the overall down
trend in price of gold. Therefore, adequate hedging measure needs to be imposed by the
company for minimizing the risk from commodity price fluctuations, which might directly
impact its overall profitability. this aging procedure which is relatively fix the prices of gold
and minimizing the negative impact from reducing gold prices on its revenue generation
capacity (McNeil, Frey and Embrechts 2015).
Figure 2: Stating the price trend of Copper
(Source: Provident Metals Online 2018)
The above figure relatively States the overall changes in price of copper, which is
relatively produced by Medusa mining company during July to December. the price changes
in copper is relatively detected from the above figure, which could directly affect the revenue

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generation capability of the company. the declining prices of copper would reduce its revenue
while the cost will remain same, which will directly hamper its overall profits from operation.
The evaluation also indicate that the prices of copper has been declining since January of
2018, which is not a good sign for the Medusa mining company, as it produces lots of copper
from its operations. This would directly impact its revenue generation capacity, while
hampering the overall profit that could be obtained from investment. The company is
relatively producing 3,800,000 pounds of copper from July to December, which is directly
affecting the overall revenue generation capability of the company due to the fluctuations in
copper price. Further decline in the, price would directly affect its profits, as the cost of
producing the copper remains constant. hence the use of hedging measure would eventually
help the organization to minimize the negative impact from commodity market risk and
maintain its profitability (Titman, Keown and Martin 2017).
Interest Rate Risk:
Figure 3: Stating the change in US Dollar Libor Rate
(Source: Tradingeconomics.com 2018)

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The change in US dollar LIBOR rate can be identified from the above figure, which
has constantly increased over the period of 2 years. This mainly indicates the change in the
overall interest rates of banks regarding the different types of loans provided to companies.
the Medusa mining company has relatively accumulated loans from US bank, who is overall
interest rates changes with the change in US dollar LIBOR rate. The changes in the overall
bank interest rate would directly affect interest payments over the period of 12 months, where
the high volatility in the US dollar LIBOR rate would increase the cash outflow of the
organization, as interest payments. the company has taken a loan of $600 million for
supporting its operations in the mind field, where the price fluctuations is affecting its
profitability and this increment interest rate would hamper the maintenance of adequate
profits. Therefore, using the adequate hedging measure will reduce the risk from rising
interest rate that would minimize risk and improve profitability of the organization (Olson
and Wu 2017).
Foreign Exchange Risk:
Figure 4: Stating the change in AUD/EUR value
(Source: Xe.com 2018)

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Figure 5: Stating the change in AUD/USD value
(Source: Xe.com 2018)
The above figures 4 and 5 relatively represents the overall changing value of €1
against Euro and USD which is directly affecting the overall operational capability of the
company. the company needs to conduct transactions on the value of USD while interest
payments needs to be conducted on Euro. Therefore, the changes in the volatility and
weakening AUD dollar directly affect its profitability in the long run. Consequently, adequate
hedging measure needs to be implemented by the Medusa mining company to reduce the
negative impact from currency exchange. the company needs to hedge its currency values to
maximize the profit from operation while reducing the risk from reduction in AUD value
(Taylor 2016). The company needs to provide interest to the loan provider in both Euro and
USD, where relevant hedging measure needs to be conducted for covering the risk from the
cleaning Australian dollar value against USD and Euro.

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b) The recommendations on the hedging percentage and process that needs to be
followed by Medusa mining company:
From the evaluation of the overall changes in gold prices adequate hedging measure
needs to be implemented by Medusa mining company. However, the current price levels of
Gold are adequate for the mining company, which needs to be hatched for minimizing its
impact on future price changes. The company needs to hedge its gold exposure by 75%,
which will fix the overall Prices for gold and the remaining 25% could be used for tapping on
the opportunities of rising gold price. this overall measure would eventually help Medusa
mining company to minimize the risk from volatile gold prices and maximize their profits in
future. the production level can be continued by Medusa mining company as the exposure of
gold prices has been hedged adequately for maximizing the profits even if the prices of gold
the clients in future (Wolke 2017).
The changes in price volatility of copper also indicates that the organization needs to
conduct and hedging procedure where the security of profits from copper production is
maintain. The company directly needs to Hedge 60% of the overall copper values to
effectively minimize the negative impact from changes of copper price. This would
eventually provide the organization with adequate heading provisions to minimize the risk
from arising copper prices. The Other 40% of the copper value is not, as the rising prices of
copper could allow the organization to tap into the new profit that would be generated from
positive value.
Moreover, the interest payment rates conducted by the company needs to be held fully
for reducing the negative impact rising LIBOR rates. hatching the whole interest repayment
of 3-month US dollar LIBOR that would eventually help the management to minimize the
possibility of extra interest payments by the organization.

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Lastly seeing the overall fluctuations in the currency market, the Australian company
needs to hedge its currency exposure on USD. the company relatively received revenues in
USD and any decline in the overall USD value would negatively impact the income of the
organization. Therefore, hedging 60% USD value would eventually allow the company to
minimize the negative impact from currency volatility (Hopkin 2017).
Section II:
Month Gold
(Ounces)
Gold Value Gold
Discounted
Value
Copper
(Pounds)
Copper
Value
Copper
Discounted
Value
Jul-18 2,000 $2,696,100 $2,685,691 500,000 $1,525,000 $1,519,113
Aug-
18
2,200 $2,965,710 $2,948,552 700,000 $2,135,000 $2,122,648
Sep-18 2,400 $3,235,320 $3,210,388 600,000 $1,830,000 $1,815,897
Oct-18 2,400 $3,235,320 $3,204,185 600,000 $1,830,000 $1,812,389
Nov-
18
2,600 $3,504,930 $3,464,493 700,000 $2,135,000 $2,110,368
Dec-
18
2,600 $3,504,930 $3,457,799 700,000 $2,135,000 $2,106,291
14,200 $19,142,310 $18,971,109 3,800,000 $11,590,000 $11,486,706
New Value $ 17,706,636.75 $ 11,010,500.00
Difference $ (1,435,673.25) $ (579,500.00)

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c) Stating the recommendations on derivatives instruments for implementing the
hedges:
From the valuation of above risk identified for Medusa mining company Adequate
hedging procedure needs to be conducted with the help of derivative instruments. these
derivative instruments would eventually help in minimizing the negative impact from
changing prices and improve profitability of the organization. The first hedging measure that
need to be implemented by Medusa mining company is on gold. where shorting the future
contracts of gold consisting of 75% of the overall production would eventually help to fixate
the selling price of the product. This would eventually help the organization to mitigate any
kind of risk from future declining prices of gold. The other 25% of the of the gold value is to
tap into the rising prices of gold and improve profitability of the organization. The future
contracts of gold need to be sold by Medusa mining company for effectively controlling its
hedging measure and minimize any risk from volatile commodity market (Ho et al. 2015).
Moreover, advertising measure on copper prices needs to be conducted by Medusa
mining company for effectively improving the level of profit from operations. The company
directly needs to hedge copper value by 60% of the total production that will be conducted
from July to December. The declining prices of copper needs to be hedged by shorting the
future contract, where the overall prices of copper will be fixated, while minimizing the risk
from overall operation. The remaining 40% of the overall copper value will not be hedged, as
the organization needs to tap into the rising prices of copper in future. This would eventually
allow the organization to minimize the negative impact of declining prices while improving
the level of profits that could be generated from copper production.
Medusa mining company also needs to hedge adequately in the Australian dollars
where its volatility is it directly affecting its capability to generate revenue from operation.
the volatile Australian currency value is directly affecting the ability of the organization to

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acquire the required revenue by selling gold and copper in the commodity market.
Furthermore, 50% of the overall currency value that will be converted from USD needs to be
hedged by Medusa mining companies using put options where the strengthening of
Australian dollars would directly affect its operations. Therefore, any kind of increment in the
values of AUD negatively affecting the USD would be hedged and the organization would
you receive adequate payment from its export. In this context, Chance and Brooks (2015)
stated that with the use of adequate hedging measure organizations are able to minimize the
risk from operation and maximize the profit that could be generated in future.
d) Evaluating the recommendation regarding the 60% hedge in November and
December production of copper:
Month Nov-18 Dec-18
Copper (Pounds) 700,000 700,000
Current spot value 3.10 2.96
New spot value 2.96 2.83
Per contract pounds 25,000 25,000
Strike price 3 3
Number of contracts 16.80 16.80
Copper value unhedged 2,072,350.00 1,979,094.25
Copper value hedged 2,088,940.00 2,009,637.70
Profit from hedging 16,590.00 30,543.45
The above table relatively represents the overall hedging procedure that is conducted
for the copper production of December and November. This relatively represents the
maximum profits that could be generated from the overall hedging operations. In addition,

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the prophets that is generated relatively reduces the overall of that might and if the company
did not use any kind of hedging procedures for their copper production. DeAngelo and Stulz
(2015) mention that with the help of nursing procedures companies are able to minimize risk
from volatile prices while increasing returns from investment. Hence, with the help of above
hedging measure the overall profit from the operations of copper can be conducted, as there is
an anticipation of copper prices to decline in future. Therefore, the hedging process would
eventually help Medusa mining company to maximize the profits that could be generated
from its operations by minimizing the negative impact of declining copper prices.
Type of Risk Price Change risk Price Change risk
Exposure to be hedged 700,000 700,000
Proportion of the
exposure to be hedged
420,000 420,000
Derivatives i.e.
Futures/or Options etc.
Futures Futures
Explain the choice of
derivative
instrument/strategy
The future contract will fix the
selling price of copper and
allow the organisation to
minimise the negative impact
from price volatility
The future contract will fix the
selling price of copper and
allow the organisation to
minimise the negative impact
from price volatility
No. of Contracts 420,000 / 25000 = 17 420,000 / 25000 = 17
Contract months Nov-18 Dec-18
Long/short/ Put/Call Short Short
Strike Prices,
premiums/Futures prices
3 3

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etc.
From the evaluation of above table, the measures used by Medusa mining Limited for
serving the risk from copper prices is effectively depicted. The overall future contracts are
used for minimizing the risk that might incur from the declining copper prices. The table also
indicates that the number of contract that needs to be placed for conducting the hedging
process and the overall impact it will have on operations of the organization.
Section III:
e) Developing an adequate combination or option spread strategy to produce copper
minimising the negative impact from price decline:
Particulars Sep-18 Dec-18
Copper (Pounds) 700000 700000
Future contract strike price 3.13 3.16
Per contract pounds 25,000 25,000
Strike price 3 3
Number of contracts 17 17
The above table relatively represents the overall hedging contract that needs to be
conducted by the organization for minimizing the negative impact of changing prices and
maximize their profitability. The use of Bull spread strategy could be one of the adequate
measure that would allow the organization to maximize its profitability from corporate. The
strategy requires the continuous selling and buying of future contracts and making adequate
hedging measures to effectively rely on the rising prices of a particular commodity. The

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buying of September future contracts and selling the December future contracts was
eventually help in curbing the losses that might in go from future copper prices. Investors and
companies directly use the method to effectively rely on the rising prices of a particular
commodity and nullify any kind of downtrend movement. the difference between the overall
buying the future contract and selling the future contract is the relevant profit that is obtained
by the organization. Therefore, with the help of bull spread strategy the overall hedging
procedure of copper can be conducted by Medusa mining company and effectively improve
its overall profitability (Lam 2014).

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