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Companies behavior regarding risk mgt
- large firms use more derivatives, even though small cpies have greater need for risk mgt
- many cpies allow their view to influence hedging ratio
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Examples of poor financial risk mgt
- Metallgesellschaft: believed could benefit from insight on mkt
- Daimler-Benz: no hedge on currency risk on $ receivable because tought $ would stay high -> fall by 14%
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Impact of CF variability
- higher expected bankruptcy cost: lawyer, court, raising funds
- higher exp pmt to stakeholder: compensate for risk
- higher exp tx: over time volatile income imply more tx (due to convexity of tx system)
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Capital structure vs risk taking initiatives
- main purpose of managing risk = minimize prob of distress
- cpies w low or no debt should not benefit from hedging
- risk mgt = direct substitute for equity
- cpies should only practice risk mgt if equity C > debt
- if already in distress -> incr risk to incr prob of upper tail
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VaR vs Long-term
- insufficient data (99% for 1 yr requires 100 yrs of data)
- relies on normal dist, but tail events usually > normal dist => even more important on longer periods
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