Financial engineering is a multidisciplinary field relating to the creation of new trading strategies, trading software, and Proprietary Trading vehicles. It is the process of employing mathematical models, financial theory and computer programming skills to make pricing, hedging, trading and portfolio management decisions. Financial engineering aims to precisely control the financial risk that a strategy or a financial product takes on.
Financial risk management is one of the most important tasks for a financial engineer. Financial risk management is about managing exposure to financial risk. Some examples of well-known and well-defined financial risks are credit risk, market risk (such as interest rate risk, foreign exchange risk, volatility risk and inflation risk) and operational risk. Financial risk management is about identifying, measuring and managing such risks.
A credit risk is the risk of default on a debt that may arise from a borrower failing to make required payments. In the first resort, the risk is that of the lender and includes lost principal and interest, disruption to cash flows, and increased collection costs
Market risk is the risk of losses in positions arising from movements in market prices.: Equity risk, the risk that stock or stock indices prices or their implied volatility will change. Interest rate risk, the risk that interest rates or their implied volatility will change
The main financial risks facing companies today are:
• foreign exchange risk or currency risk
• interest rate risk credit risk
• market risk, where companies hold large quantities of market securities (such as shares and bonds) as assets. Market risk is the risk of an adverse movement in the market price of these assets
Financial engineering can be applied to many different asset classes including equity, fixed income (ex. bonds), commodities such as oil or gold, as well as derivatives, swaps, futures, forwards, options, and instruments with embedded options.
A future is forward contract for the purchase or sale of a standard quantity of an item, for settlement or delivery at a specified future date. It is therefore a contract to buy or sell a quantity of an item at a future settlement date, at a price agreed ‘now’. Futures contracts have some special features.
• They are standardised contracts. Every futures contract for the purchase/sale of an item is identical to every other futures contract for the same item, with the only exception that their settlement dates/delivery dates may differ.
• They are traded on an exchange, rather than negotiated ‘over-the-counter’.
Commodity futures and financial futures
Commodity futures are futures contracts for the sale and purchase of standard quantities of standard commodities, such as wheat, oil, copper, gold, rubber, soya beans, coffee, cotton, sugar, and so on.
Financial futures are futures contracts for the sale and purchase of a financial item, such as a quantity of currency, a notional portfolio of shares, a quantity of notional government bonds, a notional three-month deposit, and so on. There are currency futures, short-term interest rate futures, bond futures and stock index futures.
At Global Financial Engineering, we employ Financial engineering to our Global Commodity futures Proprietary Fund and Global Financial futures Proprietary Fund and compete in the global financial markets by leveraging our quantitative skills to take calculated risks with our proprietary capital.
To become a financial engineer, one must have a strong understanding of financial products and markets, basic financial theory, mathematical tools such as probability, time series and statistics, operations research, Monte Carlo simulation, risk management, differential equations, as well as software engineering.
Financial engineers are normally employed in the banking industry either as quantitative analysts or as part of product and strategy development or risk modelling and management teams. But they also get recruited by consulting firms or in larger companies’ treasury departments.