1. Risk Management Framework, Debacles & An Options Review Risk Management Framework, Debacles & An Options Review

2. Reasons exist for active financial risk management SMOOTH EARNINGS!!! Match Supply of Internally-generated funds with Demand for funds for Capital Expenditures Match Supply of Internally-generated funds with Demand for funds for Capital Expenditures Match Employee’s incentives with Investors Match Employee’s incentives with Investors Match Information Advantage with Transaction Ability & Cost of Transaction Match Information Advantage with Transaction Ability & Cost of Transaction

3. Risk Programs Identification of risk sources Identification of risk sources Evaluation of bearing risk vs. transfer, and competitive response Evaluation of bearing risk vs. transfer, and competitive response Creation of financial positions to transfer Creation of financial positions to transfer – Position description – Standardized vs. Proprietary positions – Pricing through arbitrage Position maintenance and review Position maintenance and review

4. A Framework Example: United Grain Growers

5. Core Businesses Primary: Grain Distributor Primary: Grain Distributor Store, Sort and Transport Store, Sort and Transport Board Grain: Wheat, Barley and Oats w/ Floor Price Board Grain: Wheat, Barley and Oats w/ Floor Price Non-Board Grain: All Others w/ Variable Price Non-Board Grain: All Others w/ Variable Price Secondary: De-Facto Vertical Integration Secondary: De-Facto Vertical Integration Crop Production Services (Spring) Crop Production Services (Spring) Farm Supplies (Fertilizer, Seed and Support) Farm Supplies (Fertilizer, Seed and Support) Livestock Services (Feed) Livestock Services (Feed) Farm Business Communication (Extension) Farm Business Communication (Extension)

6. All Risks Biz Interruption Biz Interruption Cargo/Marine Cargo/Marine Civil Disturb Civil Disturb Commodity Commodity Competition Competition Consumer Consumer Contracts Contracts Credit Credit Counterparty Counterparty BofD/Officers BofD/Officers Data Data Disease/Spoil Disease/Spoil IT Failure IT Failure Employee Inj. Employee Inj. Employee Liab. Employee Liab. Employee Perf. Employee Perf. Environmental Environmental FX FX HQ Calamity HQ Calamity Indus. Spying Indus. Spying Intell. Property Intell. Property Interest Rates Interest Rates Inventory Inventory Labor Strike Labor Strike Leverage Leverage Key Executive Key Executive M&A M&A Major Property Major Property Pension Liab. Pension Liab. Process Comp. Process Comp. Product Liab. Product Liab. Product Perf. Product Perf. Political Risk Political Risk R&D R&D Regulatory Regulatory Stock Market Stock Market Strategy Strategy Technology Technology Transportation Transportation Unionization Unionization Weather Weather

7. Main Risks RiskMgmt Technique WeatherNone ToxinsInsurance/Control CounterpartyDiversify/Contracts CreditDiversify/Contracts Inventory (Spoilage)Oprtns/Insurance CommodityFutures/Options

8. Debacles Gibson Greeting Cards 1993 Gibson Greeting Cards 1993 Metallgesellschaft 1993 Metallgesellschaft 1993 Proctor & Gamble 1993 Proctor & Gamble 1993 Orange County 1994 Orange County 1994 http://www.gsm.uci.edu/~jorion/oc/case.html http://www.gsm.uci.edu/~jorion/oc/case.html http://www.gsm.uci.edu/~jorion/oc/case.html Barings Bank 1995 Barings Bank 1995 Long Term Capital Management 1998 Long Term Capital Management 1998 A thorough listing A thorough listing 20 Biggest Trading Disasters 20 Biggest Trading Disasters 20 Biggest Trading Disasters 20 Biggest Trading Disasters(http://www.telegraph.co.uk/money/main.jhtml?xml=/money/2008/01/24/bcnsocgen324.xml) Societe Generale, Credit Suisse 2008 Societe Generale, Credit Suisse 2008

9. Basic Options Review

10. Options Right to Buy/Sell a specified asset at a known price on or before a specified date. Right to Buy/Sell a specified asset at a known price on or before a specified date. Call Option - Right to buy Call Option - Right to buy Put Option - Right to sell Put Option - Right to sell When Option Bought/Sold, Premium is exchanged. When Option Bought/Sold, Premium is exchanged.

11. Option Specifications Current Price of Specified Asset - S (S as we consider options on stocks first) Current Price of Specified Asset - S (S as we consider options on stocks first) Specified Price of Buy/Sell - X (or Strike Price, so some use K) Specified Price of Buy/Sell - X (or Strike Price, so some use K) Last time to Buy/Sell – Expiry ( T ) (or Expiration date) Last time to Buy/Sell – Expiry ( T ) (or Expiration date) Note: There will be other factors when we actually start calculating prices, but for now we will take all market prices as given. Note: There will be other factors when we actually start calculating prices, but for now we will take all market prices as given.

12. Basic Option Payoffs: Call Option Payoff Price Current Stock Price Stock Payoffs Payoff Price Option Exercise Price Call Option Payoffs Out of the Money In the Money Call Option Payoff = Max[ 0, S - X ] (Intrinsic Value)

13. Basic Option Payoffs: Put Option Payoff Price Current Stock Price Stock Payoffs Payoff Price Option Exercise Price Put Option Payoffs In the Money Out of the Money Put Option Payoff = Max[ 0, X - S ] (Intrinsic Value)