Quantile Hedging - Dissertation Example

As the report dceclares investors, security analysts, investment bankers, portfolio managers, bond-rating agencies, and corporate financial analysts are concerned about the insecurity of the returns on their investments. To minimize the risks of losing in the financial market, hedginga is done by these market traders. Hedging is a method to protect one's investments. Financial derivative instruments made hedging of these risks possible. Hedgers can sell the risks to speculators, or buyers of risks, but only when these risks show some form of stability.

According to the report findings when the price of the securities increases, the trader gains profit from the main securities bought, but exhibits loss on the securities that were sold short. On the other hand, when the industry declines, the trader will earn from the short sold securities and lose from the long ones. Thus, hedging also brings risk when the securities appreciate in value. But the possible loss is not as much as when hedging is not done. The classic practice evolved into more sophisticated means as new mathematical tools or models are introduced.

All types of hedging techniques generally involve distribution between the actual market value and theoretical value, and aim to gain profits when these values converge. Common types of hedging are applied in insurance, credit risks, foreign exchange and equities. An option is a contract which gives the holder the right to buy or sell stocks or securities either at a given price or a specified period of time but without any obligation. These assets are called derivatives because their value is derived from another investment's worth.

Call options give the holder the right to buy the securities while put options give the holder the right to sell. Option pricing strategies can be traced back in history since about 1877 when a book entitled "The Theory of Options in Stocks and Shares" was written by Charles Castelli. He presented in his book the speculation and hedging aspects of options but there was no significant theoretical base. There were several more dissertations done since then that presented the analytical valuation of options and pricing models (Rubash, n.d., p.3). The modern option pricing models being used now were based on these dissertations done decades ago.

These option pricing models common to traders and analysts now are the Bachelier model, Black-Scholes model, Merton model, and the Cox-Ross-Rubinstein model or the Binomial Option Price model. Detailed discussions of