Using Derivatives for Hedging and increasing firm's value DISSERTATION SUPERVISOR: Dr. Ullas Rao Dissertatio

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STUDENT ID NUMBER: H 0 0 3 6 4 1 4 2
STUDENT NAME: Rohan Aji Kumar
PROGRAMME:(e.g. MA Accountancy and
Finance; MSc International Business Management) MSc Investment Management
DISSERTATION TITLE: Using Derivatives for Hedging and increasing
firm’s value
DISSERTATION SUPERVISOR: Dr. Ullas Rao
Dissertation hand-in deadline
(date specified for hand-in) 10/12/2021
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DATE: 9/12/2021
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Masters Dissertation
Using Derivatives for hedging and increasing firm’s value
Submitted by
Rohan Aji Kumar
H00364142
Under the guidance of
Supervisor: Dr. Ullas Rao
Word count:
Dubai, December 10th 2021
Table of Content
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Declaration 4
Acknowledgment 5
Abstract 6
Chapter 1: Introduction 7
1.1 The rationale of study 7
1.2 Empirical Testing 7
1.3 Determinants for the use of derivatives 8
1.4 Classification of Derivative markets 8
1.5 Option Hedging 9
1.6 Hedge and its benefits 10
1.7 Objectives of the study 12
Chapter Scheme 14
Chapter 2: Risk management by using Derivatives 15
Chapter 3: Literature Review 17
3.1 Theory of Hedging and it’s determinants 17
Chapter 4: Research Methodology 26
4.1 Sample Selection 26
4.2 Dependent Variable 26
4.3 Control Variable 26
4.4 Propensity matching methodology 27
4.5 Hypothesis 28
Chapter 5: Data Analysis 29
Chapter 6: Findings and Conclusions 31
6.1 Findings 31
6.2 Conclusions 31
Reference 32
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Declaration
I declare that the research work undertaken for this Master dissertation has been
undertaken by myself and the final dissertation produced by me. The work has not
been submitted in part or in whole in regard to any other academic qualification.
Title: Using Derivatives for hedging and increasing firm’s value
Name: Rohan Aji Kumar
Date: 10/12/2021
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Acknowledgement
I would like to thank all the people who. Helped and supported me through the
process of writing dissertation. Firstly, I would like to thank my parents who were
there for me the whole time supporting and motivating me in my good and bad day.
After them, I would like to thank Dr. Ullas Rao who I was very lucky to have him as
my supervisor for the advices and corrections that I got from him. At the end I want to
focus on my friends who were a great source of motivation that helped me to write the
masters dissertation on time.
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Abstract:
Contemporary commercial enterprise contraptions to hedge financial dangers include rate of
interest , rate of exchange , and price risk associated with commodity . Such hedging things add
to firm fees by assuaging market imperfections, which affords an incentive to hedge. However,
derivative contraptions can also be used for speculation and hedging, magnifying risk and
probably decreasing company value. The attention of derivatives' effectiveness at various
financial intervals or in several industries is also of value, and it can ultimately result in better
hedging and even hypothesis strategies. In this dissertation, we inspect non-financial
corporations in India developed countries from 2011 to 2020 and apply fixed outcomes
regression analysis, propensity score matching and difference-in-difference models to examine
the relationship between derivatives usage and company value. The effect of unique categories of
derivatives usage on firm value varies with the aid of the country. In particular, even though
interest derivatives damage association cost worldwide, forex derivative utilization seems to
enlarge company value.
Keywords: derivatives, hedging, risk management, association value.
Chapter 1: Introduction
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Due to the growing lookup attention, an awful lot of interest is paid to the monetary instrument
or use of derivative because of their growing recognition in the companies. The Derivatives are
monetary investments such as preferences and futures, which helps hedge the financial chance
from surprising adjustments in hobby rates, alternate charges and prices of the commodity. Firms
are using economic instruments for hedging the exposure to different hazards towards amplifies
their value. Much debate is going on the effectiveness of derivatives on threat management and
cost creation.
1.1 The rationale of a Study:
The spinoff market as a counterpart of the safety market has been popular worldwide, and even
there is a cognizance amongst creating nations about derivatives markets. The introduction of
Derivatives additionally generated worries for policymakers, practitioners and regulators
concerning its impact. Financial instruments are urbanized as extra classy and advanced tools for
managing risk. However, still today, market funders now are so acquainted with derivatives
usage. Lack of grasp of markets and of a handy relation to those doing the daily trading have also
stalled the boom of these financial markets.
Absence of perception of in what way the derivatives in trading markets are operating is an
important barrier in the forthcoming & preferences marketplace in United States as trading of
derivative is a great-risk trading tool and it’s a new area in the capital market scenario of India.
This one is fundamental to comprehend unique feature of the derivative goals and possibility, the
types of dangers related, and the approaches and potential of minimizing these risks. Even after a
time after more than 10 years from familiarizing derivatives, marketplace partakers, particularly
merchandising single financiers, are no longer acquainted with derivatives principles. Due to the
absence of such focus and insufficient obligation, derivatives may result in various particpants
who burn their fingers.
However, they take leveraged positions for speculation and abuse derivatives by incurring
significant losses. For this reason, investors need clear guidance on risk management practices.
Therefore, it is necessary to investigate investor perceptions, perceptions and attitudes towards
hedging and speculation and identify knowledge gaps between investors in derivatives. We also
need to understand investor guidance on derivative trading and suggest avoiding high losses
from speculative trading.
1.2 Empirical Testing of the Relationship between Derivative Hedges and firm value:
As validity of hedging theory has already been tested and confirmed in previous studies. The
results of previous studies show that corporate risk management is well suited to increasing
corporate value. In addition, if there are market flaws such as bankruptcy costs, convex taxation,
and underinvestment issues, hedging is rational, such as various types of research so far. These
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topics are popular among researchers and practitioners. We have been working on achieving
various economic goals, and previous literature has provided inconsistent results on this topic.
1.3 Determinants for the use of derivatives:
In reality, businesses had to face taxes, various cost of agency, difficulties associated with
finance, and asymmetry of information that interrupt the Modigliani Miller theory of hypothesis.
In such an imperfect market, individual investors struggle to recreate risk management strategies
in their accounts. Therefore, many researchers suggest that imperfect markets create solid
exposure to hedging activity. There are five main classes of market flaws.
1. Information asymmetry and agency costs.
2. Raise funds for emergency costs.
3. Management risk aversion.
4. Corporate tax
5. Sub-investment
The above five criteria contribute to broader risk exposure and management outlook than
individual investors. Hedges mitigate information asymmetry in two ways by smoothing cash
flow volatility and fairly assessing the quality of management. First, goodwill is the expected
value of future cash flow. As a result, information asymmetry can affect an investor's view of
future cash flow and negatively impact corporate value. Since Dart et al. (2002), The use and
scope of derivatives suggest reducing cash flow variability and, as a result, reducing information
asymmetry by making future cash flows more predictable.
Therefore, small businesses are likely to be incentivized to use hedging to reduce information
asymmetry. Alternatively, many studies suggest that large companies are more likely to use
derivatives. This is probably due to the more resources of large companies and the subsequent
use of specialists who can apply stronger hedging strategies, Adam etc.
1.4 Classification of Derivative markets
Derivatives Markets Financial markets can be divided into specialized stock exchange markets
and counter markets.
DERIVATIVES MARKET
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Exchange Traded Market Over the Counter