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February 03, 2009

The Prudential Forensic Analysis and Fundamental Valuation Sample Trade Addendum
by Reggie Middleton

This is the sample trade addendum for the Professional Prudential analysis. As I have stated in the Banco analysis, these are illustrative sample trades, and are not to be taken as investment advice in any way whatsoever. I am just giving an oversimplified example of how I may or may not put a speculative trade together, particular when dealing with a company from overseas whose position may introduce currency risk/opportunity.

Below you find the currency payoff matrix for Prudential, similar to the one offered for the Banco Bilbao Vizcaya Argentaria SA Analysis. We have created pay off matrix for Prudential ADR option (since the options were illiquid we have assumed theoretical price using Black-Scholes model) as well as Prudential Options in local exchange for varying combinations of calls and puts of GBP. We have conducted analysis for PRU futures with currency futures.

Contents of the downloadable The Prudential Plc Forensic Analysis and Fundamental Valuation Sample Trade Addendum. 2009-02-02 21:06:17 1.20 Mb

include:

• Sample Trade 1 - Sep - ADR PUK Option. 1
• Sample Trade 2 - Sep PUK (GBP) Option
• Arbitrage
• Sample Futures Trade
• The Currency ArgumentT. 12

Time permitting, I may be able to post a more advanced trade tomorrow.

Sample Futures Trade

Underlying

26-Jan-09

PUK LM

PUK US

Exchange rate 1.40

Note: 1 ADR = 2 Underlying shares of PUK

Price of PUK ADR (based on expected movement in currency and underlying)

1) Investor in short ADR would benefit from decrease in value of underlying and depreciation of Euro.

2) However in case of appreciation of Euro, the gains in short underlying (BBV), if any, would be wiped out due to currency impact.

3) If an investor wants to play on weakening of Euro as well then he could keep his Short ADR un-hedged.

4) Otherwise if investor wants to play only on the underlying (with a negative view) without exposing himself to the currency risk then he could take a short position in the underlying and long Euros.

5) We have determined investment returns for hedged as well as un-hedged (short) investor in form of scenario analysis for various changes in price of BBVA and exchange rate in form of tables to gauge the relative performance of hedge and un-hedge investor in form of tables.

6) A hedged investor would perform better compared to an un-hedged investor when Euro appreciates while un-hedged investor would perform better than hedged investor when Euro depreciates.

Currency argument

As worsening economic news flow to continue from both Europe and US region both Euro and Dollar are expected to remain weak against major world currencies. As U.S. economy deteriorates and expectations of a protracted recession turn out to be a reality, dollar is expected to remain under pressure from major world currencies. Unless U.S. economy takes a u-turn or other regions deterioration sharply, dollar is expected to remain weak. Since economic conditions in US are expected to continue to remain challenging US dollar is expected to depreciate vis-a-vis major world currencies. However relative to Europe we expect the US dollar to perform better, as the European economy which until now has been relatively insulated by the slowdown (relative to US) it is showing increasing signs of weakness. As the European region crawls into a recession the European Central Bank which until now has held up interest rates will be forced to lower its bench mark interest rates. With Fed maintaining a zero interest rate policy as the ECB lowers its benchmark rates, the interest rate gap between Euro and Dollar is further expected to narrow down providing some strength to dollar. Also with US already maintaining a zero interest rate policy there will obviously not be any further Fed rate cuts of substance, which could provide some strength to dollar. Besides interest rate parity, swift policy actions and a massive stimulus package already announced by the US may may cause the US to emerge from recession much faster than Europe which could provide further support for US dollars vis-à-vis Euro.

Besides these fundamental arguments the data for Euro futures seem to imply that market participants are expecting Euro to weaken. As of December 31,2008 12 month Euro futures were trading at a discount of nearly 0.63% to Spot while 3 year and 9 year Euro futures were trading at a discount of 1.7% and 8.5%, respectively.

Reggie Middleton
Reggie Middleton, LLC
Perpetual Interests, LLCTM
http://boombustblog.com/

Who am I?

Well, I fancy myself the personification of the free thinking maverick, the ultimate non-conformist as it applies to investment and analysis. I am definitively outside the box - not your typical or stereotypical Wall Street investor. I work out of my home, not a Manhattan office. I build my own technology and perform my own research - in lieu of buying it or following the crowd. I create and follow my own macro strategies and am by definition, a contrarian to the nth degree.

Since I use my research as a tool for my own investing to actually put food on my table, I can stand behind it as doing what it is supposed too - educate, illustrate and elucidate. I do not sell advice, I am not a reporter hence do not sell stories, and I do not sell research. I am an entrepreneur who exists just outside of mainstream corporate America and Wall Street. This allows me freedom to do things that many can not. For instance, I pride myself on developing some of the highest quality research available, regardless of price. No conflicts of interest, no corporate politics, no special favors. Just the hard truth as I have found it - and believe me, my team and I do find it! I welcome any and all to peruse my blog, use my custom hacked collaborative social tools, read the articles, download the files, and make a critical comparison of the opinion referencing the situation at hand and the time stamp on the blog post to the reality both at the time of the post and the present. Hopefully, you will be as impressed with the Boom Bust as I am and our constituency.

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So here I am, creating my own research for my own investment activity. What really sets my actions apart is that I offer much of what I produce to the public without charge - free to distribute and redistribute, as long as it is left unaltered and full attribution is given to the author and owner. Why would I do such a thing when others easily charge 5 and 6 digits annually for what some may consider a lesser product? It is akin to open source analysis! My ideas and implementations are actually improved and fine tuned when bounced off of the collective intellect of the many, in lieu of that of the few - no matter how smart those few may believe themselves to be.

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So, this is how I use my background and knowledge in new media, distributed computing, risk management, insurance, financial engineering, real estate, corporate valuation and financial analysis to pursue, analyze and capitalize on global macroeconomic opportunities. I have included a more in depth bio at the bottom of the page for those who really, really need to know more about me.

Visit his blog Boom Bust Blog.

Copyright © 2007-2009 Reggie Middleton

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