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Hi sir,
How do we know we need to perform a collar calculation in the exam? Are there any keywords or keypoints that indicate we need to perform a collar calculation?
If the question only ask ‘ Illustrate how the interest rate risk might be hedged against if interest rate increases by 0.5%’. Should I perform a collar calculation?
You do not in that case need to do a collar calculation, but it would be good to suggest that by creating a collar then they could reduce the net premium payable.
Sir, regarding collar, for borrowers, will it always be buying a put option and selling a call option? Then what should i do if it is a lender? And what if there are a few strike price given for the call and put options? Which strike price must I choose?
Yes – for borrowers you will buy a put and sell a call.
If you are a lender you will buy a call and sell a put.My article on collars will help you:
https://opentuition.com/articles/p4/interest-rate-collars/There are no ‘best’ strike prices to choose because different collars will have different net premium costs. In the exam you will get most of the marks by just illustrating how one collar would work, but ideally you would show the effect of all possible collars.
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