Risk Mitigation

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Risk Mitigation

  1. 1. RISK MITIGATION BY ‘DERIVATIVES’<br />AMIT KUMAR JAIN<br />MBA (OIL & GAS)<br />
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  3. 3. Long term contracts.<br />Options strategies<br />Swap <br />Natural gas chain<br />Contents <br />
  4. 4. Articles / provisions could be broadly classified into four parts :<br />General.<br />Commercial.<br />Technical.<br />Legal. <br />Long term contracts&apos;<br />
  5. 5. Preamble<br />Definitions & Interpretations<br />Conditions Precedent<br />Sales & Purchase<br />Term & Termination.<br />Notices.<br />Details of Performance.<br />Joint Coordination Committee.<br />General <br />
  6. 6. In common law legal systems, a precedent or authority is a legal case establishing a principle or rule that a court or other judicial body adopts when deciding subsequent cases with similar issues or facts.<br />Precedent <br />
  7. 7. A preamble is an introductory and explanatory statement in a document that explains the document&apos;s purpose and underlying philosophy. <br />When applied to the opening paragraphs of a statute, it may recite historical facts pertinent to the subject of the statute.<br />Preamble… <br />
  8. 8. Sources of Supply.<br />Taxes, Duties & Charges.<br />Financing<br />Quantities.<br />Invoices & Payment.<br />Transportation.<br />Contract Sales Price.<br />Programming of Deliveries.<br />Additional Matters.<br />Commercial <br />
  9. 9. Seller’s & Buyer’s Facilities<br />Quality<br />Measurement and Tests<br />Technical <br />
  10. 10. Transfer of Title<br />Liabilities<br />Amendment & Waiver.<br />Confidentiality<br />Sovereign Immunity<br />Force Majeure.<br />Assignment<br />Applicable Law<br />Arbitration<br />Legal <br />
  11. 11. It is the doctrine that the sovereign or state cannot commit a legal wrong and is immune from civil suit; hence the saying, the king (or queen) can do no wrong. In many cases, governments have waived this immunity to allow for suits; in some cases, an individual may technically appear as defendant on the state&apos;s behalf.<br />Sovereign Immunity<br />
  12. 12. It is a common clause in contracts which essentially frees both parties from liability or obligation when an extraordinary event or circumstance beyond the control of the parties, such as a war, strike, riot(civil disorder), crime, or an event described by the legal term &quot;act of God&quot; (e.g., flooding, earthquake, volcano), prevents one or both parties from fulfilling their obligations under the contract.<br />Force Majeure<br />
  13. 13. LATE 1980’S SPOT MARKET 80%<br />1982 SPOT MARKET HARDLY EXISTED<br />APRIL 1990, FIRST FUTURE, BY NYMEX<br />1992 SPOT MARKET FALL TO 35%-40%<br />DERIVATIVES HISTORY IN NATURAL GAS MARKET<br />
  14. 14. LONG<br />CALL <br />PUT<br />SHORT<br />CALL<br />PUT<br />OPTION’S<br />
  15. 15. LONG PUT POSITION<br />
  16. 16. SHORT PUT POSITION<br />PAYOFF<br />OPTION PREMIUM<br />STRIKE<br />UNDERLIER VALUE<br />
  17. 17. SHORT CALL POSITION<br />
  18. 18. LONG CALL POSITION<br />PAYOFF<br />OPTION PREMIUM<br />STRIKE<br />UNDERLIER VALUE<br />
  19. 19. OPTION SPREAD<br />An option spread is a position comprising two or more options on the same underlie.<br />Some spreads have standard names<br />Straddle<br />Strangle<br />Collar<br />Call spread(Bull spread)<br />Ratio call spread<br />Put spreads(Bear spread) <br />Ratio put spread<br />Butterfly spread<br />Cartwheel<br />Wrangle<br />Calendar spread<br />OTHER STRATEGIES<br />
  20. 20. A straddle comprises a put and a call with the same expiration and struck at the same price—usually at the money.<br />Long <br />Short <br />Straddle <br />
  21. 21. Long Straddle<br /><ul><li>Helpful when market is too much volatile.</li></li></ul><li>Short Straddle<br /><ul><li>Helpful when market is low volatile.</li></li></ul><li>A strangle is similar to a straddle, but both options are struck out of the money. <br />For this reason, a long strangle is cheaper than a long straddle<br />Strangle <br />
  22. 22. Long Strangle<br />PUT<br />CALL<br /><ul><li>less likely to be profitable.
  23. 23. It requires a larger move in the underlier to be profitable.</li></li></ul><li>A butterfly spread is a long strangle with a short straddle.<br />Butterfly Spread<br />
  24. 24. A collar (or fence) is a spread comprising a long (short) call and a short (long) put, both out-of-the-money and for the same expiration. <br />The strikes can be chosen so that the purchase (sale) price of the call exactly offsets the sale (purchase) price of the put so the spread is a costless collar<br />Collar <br />
  25. 25. Costless Collar<br />CALL<br />PUT<br /><ul><li>When you are sure that price will rise in future </li></li></ul><li>A call spread (also called a bull spread) comprises a long call at one strike price and a short call at a higher strike price. Both options are for the same expiration.<br />Call Spread (Bull Spread)<br />
  26. 26. Cont…<br /><ul><li>It has limited upside potential, but income from selling the high-strike call offsets the cost of purchasing the low-strike call.</li></li></ul><li>A ratio call spread is a call spread in which the low and high strike calls are not bought and sold in equal proportions.<br />Call Spread Ratio<br />
  27. 27. High strike puts are purchased and low strike puts are sold.<br />Put Spread (Bear Spread) <br />
  28. 28. A ratio put spread is a put spread in which the low and high strike calls are not bought and sold in equal proportions.<br />Ratio Put Spread<br />
  29. 29. Wrangle: A long (short) wrangle is long (short) both a ratio call spread and a ratio put spread. For example, puts might be struck at 90 and 100 with calls struck at 100 and 110.<br />Cartwheel: A cartwheel is long (short) a ratio call spread and short (long) a ratio put spread.<br />Calendar spread: A calendar spread is a long-short position is two calls or two puts. Both options have the same strike, but they have different expirations. <br />
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  33. 33. Let&apos;s look more specifically at some of the ways futures and options are used to address the needs and risks of six important groups: <br />Producers (ONGC, NIKO)<br />Gas processors(ONGC, GAIL)<br />Interstate pipeline companies(GAIL)<br />Local distribution companies (or LDC’s)(IGL) <br />Marketers (HPCL, BPCL)<br />End-users(INDUSTRY, DOMESTIC)<br />According to chain…<br />
  34. 34. Producers <br />
  35. 35. Natural gas and propane are also likely candidates for a market-related spread since natural gas processing is the major source of propane production.<br />“Frac” spread…<br />The two most popular ratios used to create a balance heating value position are a 3:1 or 5:2 propane to natural gas spread.<br />Gas Processors <br />
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  37. 37. Inter market spread<br />Interstate pipeline company<br />
  38. 38. Price risk<br />Inter commodity risk <br />Local Distribution Companies<br />
  39. 39. Assume a marketer has purchased gas from a producer but has not yet struck a deal with any buyers. The marketer is concerned that prices may fall before he can sell the gas, so he sells futures to lock in his sale price.<br />A marketer has agreed to sell natural gas to a chemical company at the spot price plus a transportation charge and marketer&apos;s fee. The marketer has not secured supplies, and is concerned that the market may tighten, forcing him to buy at higher prices. He buys futures to lock in his purchase price.<br />Marketers <br />
  40. 40. Protecting against sharp price spikes<br />Protecting against falling electricity prices<br />Fixing short-term fuel costs<br />Locking in an attractive spot price<br />Hedging storage gas<br />End Users<br />
  41. 41. Now you looking like him… <br />
  42. 42. Thank you<br />

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