oprick B slide 29
- Thread starter fashepard
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Hi Frank,
This is from Stulz Ch 2 & 3. His broader point is:
* In theory, neither the reduction (diversification) of diversifiable risk nor the reduction of systemic risk creates value [note: I don't think we can say 'to diversify systemic risk.' Rather, we can reduce systemic risk but by definition it cannot be diversified away]. This is the point of Ch 2
* But in practice, as the theoretical assumptions aren't true, the theory is incorrect and in practice risk management can create value. These examples are the point of Ch 3
So, this gold example refers to, from Ch 2, the scenario where gold price represents systemic risk to the firm (Stulz gives examples where gold price is either diversifiable or systemic, so i don't think he takes a position on that per se). Okay, given gold price is systemic risk, then slide 29 illustrates: if a hedge reduces the systemic risk (not diversifies it away; rather, reduces by way of a hedge) then value is not created because lower cash flow is offset by a lower discount rate (i.e., a lower beta in the CAPM).
David
This is from Stulz Ch 2 & 3. His broader point is:
* In theory, neither the reduction (diversification) of diversifiable risk nor the reduction of systemic risk creates value [note: I don't think we can say 'to diversify systemic risk.' Rather, we can reduce systemic risk but by definition it cannot be diversified away]. This is the point of Ch 2
* But in practice, as the theoretical assumptions aren't true, the theory is incorrect and in practice risk management can create value. These examples are the point of Ch 3
So, this gold example refers to, from Ch 2, the scenario where gold price represents systemic risk to the firm (Stulz gives examples where gold price is either diversifiable or systemic, so i don't think he takes a position on that per se). Okay, given gold price is systemic risk, then slide 29 illustrates: if a hedge reduces the systemic risk (not diversifies it away; rather, reduces by way of a hedge) then value is not created because lower cash flow is offset by a lower discount rate (i.e., a lower beta in the CAPM).
David
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