EBF 473 - Risk Management in the Earth Sciences:

Analysis of strategies for mitigating business risk from market, atmospheric, geophysical uncertainties including the use of energy/mineral commodity futures/options, weather derivatives, and insurance.

Prerequisite - MSIS 200 or STAT 200 or E B F 472

University Prerequisite Policy

Students who do not meet these prerequisites after being informed in writing by the instructor may be dis-enrolled during the first 10-day free add-drop period: http:/www.psu.edu/dept/oue/aappm/C-5.html. If you have not completed the listed prerequisites, then promptly consult with the instructor if you have not done so already. Students who re-enroll after being dis-enrolled according to this policy are in violation of Item 15 on the Student Code of Conduct: http://studentaffairs.psu.edu/conduct/codeofconduct/.

Spring 2015 - TR 09:45 - 11:00 in 360 Willard
Instructor: George S. Young, 620 Walker, 3-4228, [email protected].
Office Hours: 11:00 - 12:30 TR

Teaching assistants:

Cory Barwatt: [email protected]
Helen Guza: [email protected]

Overview

All major firms engage in financial risk management. In this course, we will learn the basics of how firms can use financial instruments to manage their financial risk. In particular, we will focus on risk management with respect to threats to financial viability from the weather. This course will be both challenging and highly practical.

Text: Hull, Options, Futures, and Other Derivatives (any edition from 6th onwards is fine).

Assistance with Textbooks

Penn State honors and values the socioeconomic diversity of our students. If you require assistance with the costs of textbooks for this course, contact the Office of Student and Family Services (120 Boucke Building, 863-4926, http://studentaffairs.psu.edu/familyservices/). For additional need related to socioeconomic status please visit sites.psu.edu/projectcahir.

Internet: Lectures, homework, quizzes, study guides and old exams/quizzes are on the course Angel site

Course Objectives

This course is designed to give you the basic underpinnings of financial risk management and help prepare you for a career in this area. Specific topics reviewed include:

1. Properties of options
2. Basic financial statistics
3. Arbitrage (making money without investing money)
4. Determining the value of options
5. How to use options to reduce financial risks.

Understanding each of these areas is important for a successful career in the energy industry.

An additional goal for this class is for you to become more familiar with how to present your work in a professional manner. Thus, all answers will be expected to be complete, and all work fully shown.

Lecture notes will be posted to the ANGEL site. Reading assignments are also located on the ANGEL site. Do not send me e-mail through ANGEL, rather use my PSU account, George Young at [email protected], as I do not check ANGEL mail regularly.

Course Content

Topic / Readings

• Review of Financial Statistics / Lecture notes
• Mechanism of Options Markets / Hull, Chapter 8
• Financial Statistics and the Collapse of Long-Term Capital Management (1998) / “Long-Term Capital Mismanagement,” pages 218-274 in Marthinsen, Risk Takers
• Properties of Stock Options / Hull, Chapter 9
• The Binomial Option Model / Hull, Chapter 11
• The Black Sholes Model / Hull, Chapter 12
• Midterm
• Delta Hedging, Nick Leeson and the Collapse of Barings Bank (1994), and Delta-Gamma Hedging / Chapter 17, Hull Kolb and Overdahl, pages 142-147
• Implicit Volatility and the Volatility Smile / Hull, Chapter 13.11, Chance, Appendix to Chapter 5
• Going Short and the 1999-2000 Internet Bubble / Lamont, “Short-Sale and Overpricing”
• Mortgage Backed Securities and the Collapse of 2008 / Buckberg, et. al.,” Subprime and Synthetic CDOs: Structure, Risk, and Valuation”
• Weather Derivatives / Considine, “Introduction to Weather Risk Management / ”Young, “Pricing Electricity from Probabilistic Weather Forecasts / ”In Nature’s Casino by Michael Lewis http://www.nytimes.com/2007/08/26/magazine/26neworleans-t.html?pagewanted=all&_r=0

All readings outside the Hull text and the NY Times article will be posted on the course ANGEL site.

Preliminary Assignment Schedule (subject to change

• Tuesday, January 13: First Class
• Tuesday, January 20: Students choose groups for group quizzes.
• Thursday, January 22: First solo quiz
• Tuesday, January 27: First group quiz; Homework 1 due
• Thursday, February 5: Homework 2 due
• Thursday, February 19: Homework 3 due
• Tuesday, March 3: Homework 4 due
• Tuesday and Thursday, March 10, 12: Spring Break!
• Tuesday, March 17: Review Session
• Thursday, March 19: Mid-term
• Tuesday, April 14: Homework 5 due
• Tuesday, April 21: Homework 6 due
• Thursday, April 30: Homework 7 due, Review Session

The final exam time is currently unscheduled.

Grading mistakes happen. So if you think your work was graded incorrectly, please ask the instructor. But make sure to check with the grader first. This saves a lot of trouble.

Assessment Tools (i.e. Grading policy, written assignments and examination policy)

• Homework (7)     30%
• Solo quizzes     9%
• Group quizzes     9%
• Mid-term exam     26%
• Final Exam     26%

There is no extra credit in this class besides that discussed in the paragraph below. The mid-term exam is scheduled for March 19 in class. The final exam is currently unscheduled. The mid-term and final will be closed book, no notes. Both the mid-term and the final will consist of five mathematical problems. The final will NOT be cumulative. Previous exams will be made available.

Your homework grade will be calculated as the average of your six highest homework scores. (So your lowest homework score gets dropped.) Any individual homework score will be increased by 10% if you hand it into my office by 4:00PM the day before it is due. (So, for example, if the homework you handed a day early in receives an 86, you will receive a score of 94.6 on that particular homework.) Please type your homework and submit them in paper form using one side of the page (no electronic submissions), showing all your work. Graphs should be done using EXCEL. Also, you should familiarize yourself with the EXCEL “COPY” command. No late homework will be accepted.

It is very important to keep up to date on the material. Trying to “cram” in the class work right before an exam will not be successful. To give you additional incentives to keep up with the class, most class periods will end with a short quiz. These quizzes will be open book, open notes.

Thus, most Thursday classes will end with students asked individually answer one question based on the previous lecture. Most Tuesday classes will end with a group quiz of one question based on the previous lecture. The instructor will assign a problem and the several groups in the class will work on the problem. Each group will hand in an answer to be graded. Students will choose their groups the third day of class, and should sit together with their group. Choose your group wisely! You will be responsible for the outcome.  These quizzes will be open book, open notes.

Both Tuesday and Thursday quizzes will be based on the most important points from the previous class’ lecture. Thus, it should be straightforward to figure out what is likely to be on these quizzes. Put another way, if you are surprised by a question on a daily quiz, you most likely have made a mistake.

Please bring a calculator to class every single session.

Academic Integrity

This course adopts the academic integrity policy of the EMS College, which is described at http://www.ems.psu.edu/current_undergrad_students/academics/integrity_policy. Briefly, students are expected to do their own problem sets and to work the exams on their own. Class members may work on the problem sets in groups, but then each student must write up his or her answers separately. Students may not copy problem set or exam answers from another person's paper and present them as their own even if you worked together to figure out how to solve the problem. Students who present other people's work as their own, as well as the students providing the answers, will receive at least a 0 on the assignment and may well receive an F in the course.

Every so often, we see that on the homework one or more students have copied the files of another student. This is easy to spot, and deal with.

Please refer to the Academic Integrity and Research Ethics page on the EMS website: 
http://www.ems.psu.edu/current_undergrad_students/academics/integrity_policy for details of University and College policies.

Students with Learning Disabilities

Penn State welcomes students with disabilities into the University's educational programs. Every Penn State campus has an office for students with disabilities. The Office for Disability Services (ODS) at http://equity.psu.edu/ods/dcl provides contact information for every Penn State campus: (http://equity.psu.edu/ods/dcl). For further information, please visit the Office for Disability Services website (http://equity.psu.edu/ods).

In order to receive consideration for reasonable accommodations, you must contact the appropriate disability services office at the campus where you are officially enrolled, participate in an intake interview, and provide documentation based on the documentation guidelines (http://equity.psu.edu/ods/guidelines). If the documentation supports your request for reasonable accommodations, your campus’s disability services office will provide you with an accommodation letter. Please share this letter with your instructors and discuss the accommodations with them as early in your courses as possible. You must follow this process for every semester that you request accommodations.

Attendance

This course abides by the Penn State Class Attendance Policy 42-27 at http://senate.psu.edu/policies/42-00.html#42-27, Attendance Policy E-11: http://www.psu.edu/oue/aappm/E-11.html, and Conflict Exam Policy 44-35: http://www.psu.edu/ufs/policies/44-00.html#44-35. Please also see Illness Verification Policy: http://studentaffairs.psu.edu/health/welcome/illnessVerification/, and Religious Observance Policy: http://www.psu.edu/oue/aappm/R-4.html. Students who miss class for legitimate reasons will be given a reasonable opportunity to make up missed work, including exams and quizzes.  Students are not required to secure the signature of medical personnel in the case of illness or injury and should use their best judgment on whether they are well enough to attend class or not; the University Health Center will not provide medical verification for minor illnesses or injuries. Other legitimate reasons for missing class include religious observance, family emergencies, and regularly scheduled university-approved curricular or extracurricular activities.  Students who encounter serious family, health, or personal situations that result in extended absences should contact the Office of Student and Family Services for help: http://studentaffairs.psu.edu/familyservices/.  Whenever possible, students participating in University-approved activities should submit to the instructor a Class Absence Form available from the Registrar's Office: http://www.registrar.psu.edu/student_forms/, at least one week prior to the activity.

Weather Delays

Campus emergencies, including weather delays, are announced on Penn State News: http:/news.psu.edu/ and communicated to cellphones, email, the Penn State Facebook page, and Twitter via PSUAlert (Sign up at: https://psualert.psu.edu/psualert/).

Disclaimer Statement

Please note that the specifics of this Course Syllabus can be changed at any time, and you will be responsible for abiding by any such changes. Changes will be posted to the course discussion forum.

REMEMBER, AN OPTION CANNOT HAVE NEGATIVE VALUE!