Hedging Portfolios Of Financial Guarantees

Enterprise risk management is nowadays a must for all corporations' especially financial institutions. In this paper, the authors use a risk management framework á la Merton and Perold (1993) and Froot and Stein (1998) to study hedging strategies by financial guarantee providers who hold invariably portfolios composed of several financial guarantee contracts. For instance, firms in the financial services industry can diversify away the systematic risk and/or insure (reinsure), hedge, retain (e.g., Bodie and Merton (1999)), and undertake alternative risk transfer (e.g., Banks (2004)).