When couple price reduces, the sales revenue also would decrease.

Original post by writer ID 85479There were quite a number of risks faced by lenders. The first risk was credit risk, which was associated with the price of copper since the copper price was going to dictate the lenders’ flow of revenue. As a result when copper price was higher, sales revenue would increase. When couple price reduces, the sales revenue also would decrease. The second type of risk faced by lenders was country risk. Here, when a particular nation did not have an outstanding record of paying its debt, it would be very had for banks to lend out their money to companies in that nation as they are insure whether they will get back their funds in time. Another risk was performance risk. Lenders had to be sure whether the Mexicana de Cobra would be capable of carrying on mining copper at the pace that it has been in the past. Performance risk may be caused by environmental disasters like flooding of mines, earthquakes, ad strikes, which could hinder the steady flow of copper exports. There was also the risk of interest rate, which was based upon whether Mexicana de Cobre would secure floating or fixed interest rate detects.

The country risk was addressed by Paribus through establishing an escrow account in the U.S via which payments on copper export sales were channelled. The lenders could evade these risks also through entering into a chain of forward contracts that lock in price of copper over loan’s price. In addition lenders had developed a transaction which enabled them into transforming credit risk of loan and well as country risk related to the loan, through superimposing copper price swap that efficiently removed copper price risk.

Follow-up question :performance risk. Could it be hedged and how costly would it be? Can you be more specific about the mechanics of the copper price swap as a hedging instrument against copper price volatility and how it is linked to credit risk?

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