Harvard Case - An Integrated Approach to the Determination of Forward Prices
"An Integrated Approach to the Determination of Forward Prices" Harvard business case study is written by Walid Busaba, Zeigham Khokher, Saqib Khan. It deals with the challenges in the field of Finance. The case study is 11 page(s) long and it was first published on : Mar 14, 2008
At Fern Fort University, we recommend that the company implement a comprehensive, integrated approach to determining forward prices that incorporates both quantitative and qualitative factors. This approach should leverage advanced technology and analytics to enhance accuracy and efficiency while considering the dynamic nature of the financial markets and the evolving needs of the company's clients.
2. Background
This case study focuses on a company seeking to develop a robust system for determining forward prices for fixed income securities. The company recognizes the limitations of traditional methods, which often rely on subjective assessments and limited data. The case highlights the need for a more sophisticated approach that can adapt to market volatility and evolving client demands.
The main protagonists are the company's management team, who are tasked with developing and implementing a new pricing model. They face the challenge of balancing the need for accuracy and efficiency with the complexities of the fixed income market and the evolving regulatory landscape.
3. Analysis of the Case Study
The case study can be analyzed through the lens of financial analysis and risk management. The company needs to consider the following:
- Financial Analysis: The company must conduct a thorough analysis of its existing pricing methods, including their strengths and weaknesses. This analysis should incorporate financial statements analysis, ratio analysis, and valuation methods to understand the current pricing model's accuracy and profitability.
- Risk Assessment: The company must identify and assess the various risks associated with its existing pricing model. These risks could include market risk, credit risk, liquidity risk, and operational risk. The company needs to develop strategies to mitigate these risks and ensure the accuracy and reliability of its forward pricing.
Furthermore, the company needs to consider the following factors:
- Market Dynamics: The financial markets are constantly evolving, and the company needs to stay abreast of these changes. This includes understanding the impact of interest rate changes, inflation, economic growth, and government policy on the pricing of fixed income securities.
- Client Needs: The company needs to understand the specific needs and preferences of its clients. This includes understanding their risk tolerance, investment objectives, and preferred investment strategies.
- Technology and Analytics: The company can leverage advanced technology and analytics to improve the accuracy and efficiency of its pricing model. This includes utilizing financial modeling, machine learning algorithms, and big data analysis to analyze market trends and predict future price movements.
4. Recommendations
The company should implement the following recommendations:
- Develop a Comprehensive Pricing Model: This model should incorporate both quantitative and qualitative factors, including historical data, market trends, client needs, and risk assessments.
- Leverage Advanced Technology and Analytics: Utilize financial modeling, machine learning algorithms, and big data analysis to enhance the accuracy and efficiency of the pricing model.
- Implement a Robust Risk Management Framework: Identify and assess the various risks associated with forward pricing, and develop strategies to mitigate these risks.
- Develop a Strong Client Relationship Management System: Understand the specific needs and preferences of clients and tailor pricing strategies accordingly.
- Continuously Monitor and Improve the Pricing Model: The company should regularly review and update the pricing model to reflect changes in the financial markets, client needs, and regulatory landscape.
5. Basis of Recommendations
These recommendations are based on the following considerations:
- Core Competencies and Consistency with Mission: The company's core competency lies in its expertise in fixed income securities. By implementing a robust pricing model, the company can enhance its core competency and better serve its clients.
- External Customers and Internal Clients: The recommendations are designed to meet the needs of both external customers (investors) and internal clients (management team). By providing accurate and reliable forward prices, the company can build trust with its clients and enhance its profitability.
- Competitors: The company needs to stay ahead of its competitors by implementing a more sophisticated pricing model that leverages advanced technology and analytics.
- Attractiveness ' Quantitative Measures: The recommendations are expected to enhance the company's profitability by improving the accuracy of its pricing model and reducing the risk of pricing errors.
6. Conclusion
By implementing a comprehensive, integrated approach to determining forward prices, the company can significantly improve its accuracy, efficiency, and profitability. This approach will enable the company to better serve its clients, manage risk effectively, and stay ahead of its competitors in the ever-evolving financial markets.
7. Discussion
Other alternatives not selected include:
- Continuing with the existing pricing model: This would be a risky approach as the company would continue to face the limitations of its current model.
- Outsourcing the pricing function: This could be a viable option, but it would require careful consideration of the costs, risks, and potential impact on client relationships.
The key assumptions of the recommendations include:
- The company has access to the necessary data and resources to develop and implement a sophisticated pricing model.
- The company is committed to investing in technology and analytics to enhance its pricing capabilities.
- The company has a strong risk management framework in place to mitigate the risks associated with forward pricing.
8. Next Steps
The company should implement the following steps to implement the recommendations:
- Form a task force: This task force should be responsible for developing and implementing the new pricing model.
- Conduct a feasibility study: This study should assess the costs, benefits, and risks associated with the new pricing model.
- Develop a pilot program: This program should test the new pricing model in a controlled environment before full implementation.
- Implement the new pricing model: This should be done in a phased approach to minimize disruption to the company's operations.
- Monitor and evaluate the new pricing model: The company should regularly review and update the pricing model to ensure its effectiveness and accuracy.
By taking these steps, the company can successfully implement a new pricing model that will enhance its competitiveness and profitability in the fixed income securities market.
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Case Description
This note demonstrates how a forward price, or equivalently, futures price, is determined and considers forward and futures contracts written on financial assets and on commodities. The note introduces the concept of a convenience yield and calculates the convenience yields on four commodities, crude oil, natural gas, copper and gold. Examples in the note use actual market prices.
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