Chapter8 - Chapter Eight Fundamentals of the Futures Market...

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Chapter Eight Fundamentals of the Futures Market Answers to Problems and Questions 1. Open interest measures the number of futures contracts that exist. One side of the contract may change hands many times prior to the delivery month. Each time a trade occurs, this adds to the daily volume in that contract. Open interest, however, will not change unless the clearinghouse matches two closing transactions. 2. A major role of the futures exchange is to enable the farmer or other hedger to reduce price risk by promising to deliver the commodity at a specific price. The farmer wants to deliver, and it is essential that he or she be able to do so. It is also the prospect of having to deliver, or to take delivery, that causes futures prices to converge on the cash price as delivery time approaches. 3. This point has been debated for many years. The best argument in favor of them stems from the numerous margin calls that result in a volatile market where trading is not stopped. For instance, if a market were unregulated, prices might advance in the morning so much that initial good faith deposits from short sellers were completely lost. This would result in variation margin calls that needed to be met within the hour. Yet in the afternoon, prices might fall precipitously, and generate margin calls for those with long futures position. It is possible under a scenario like this that the afternoon settlement price could be the same as the opening price, yet both sides of the market suffered severe margin calls and inconvenience during
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Chapter8 - Chapter Eight Fundamentals of the Futures Market...

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