This short case could be handed out at the end of class discussion on “J&L Railroad” [UVA-F-1053] in preparation for the following class, or if students are more experienced with hedging and option pricing, the instructor may choose to cover both cases in a single class period. It is the companion case to “J&L Railroad” [UVA-F-1053], and presents more technical issues regarding the hedging problem by requiring students to understand option-pricing principles. The board likes the CFO's hedging recommendations, but it wants a more careful analysis of the bank's prices for its risk-management products: the caps and floors. Besides demanding an understanding of option pricing, this case puts particular emphasis on the calculation and use of implied volatility.
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