What major risks did MGRM identify? What major risks did MGRM fail to identify?
What will be an ideal response?
There are three main risks to consider in this question: market risk, credit risk, and liquidity risk. The most important risks facing MGRM were market risk and liquidity risk. Because of its large number of short forward positions (which had maturities as long as 10-years) MGRM was exposed to extreme cash flow fluctuations if energy prices changed (i.e., market risk). It is for this reason that the company used stack-and-roll hedges to reduce these risks. MGRM failed to recognize how seriously the cash outflows from marking to market its massive futures positions could threaten MGAG's ability to finance them (i.e., liquidity risk). MGRM probably recognized that it faced moderate credit risks because, over a ten-year period, it was likely that some customers would not be able to pay their bills.
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