With the covering of interest rate risk action now cf

Info icon This preview shows pages 5–8. Sign up to view the full content.

View Full Document Right Arrow Icon
with the covering of interest rate risk: Action Now CF in $ Action at period-end CF in $ Borrow $2.00 in U.S. $2.00 Repay loan –$2.00 × 1.04 Convert borrowed dollars to pounds; lend £1 pound in U.K. –$2.00 Collect repayment; exchange proceeds for dollars 1.07 × E 1 Sell forward £1.07 at F 0 = $1.98 0 Unwind forward 1.07 × ($1.98 – E 1 ) Total 0 Total $0.0386 13. The farmer must sell forward: 100,000 × (1/0.90) = 111,111 bushels of yellow corn This requires selling: 111,111/5,000 = 22.2 contracts 14. The closing futures price will be: 100 - 4.80 = 95.20 The initial futures price was 95.4525, so the loss to the long side is 25.25 basis points or: 25.25 basis points × $25 per basis point = $631.25 The loss can also be computed as: 0.002525 × ¼ × $1,000,000 = $631.25 15. Suppose the yield on your portfolio increases by 1.5 basis points. Then the yield on the T-bond contract is likely to increase by 1 basis point. The loss on your portfolio will be: $1 million ×∆ y × D* = $1,000,000 × 0.00015 × 4 = $600 The change in the futures price (per $100 par value) will be: $95 × 0.0001 × 9 = $0.0855 This is a change of $85.50 on a $100,000 par value contract. Therefore you should sell: $600/$85.50 = 7 contracts 23-5
Image of page 5

Info icon This preview has intentionally blurred sections. Sign up to view the full version.

View Full Document Right Arrow Icon
Chapter 23 - Futures, Swaps, and Risk Management 16. She must sell: 8 . 0 $ 10 8 million 1 $ = × million of T-bonds 17. If yield changes on the bond and the contracts are each 1 basis point, then the bond value will change by: $10,000,000 × 0.0001 × 8 = $8,000 The contract will result in a cash flow of: $100,000 × 0.0001 × 6 = $60 Therefore, the firm should sell: 8,000/60 = 133 contracts The firm sells the contracts because you need profits on the contract to offset losses as a bond issuer if interest rates increase. 18. F 0 = S 0 (l + r f ) T = 880 × 1.04 = 915.20 If F 0 = 920, you could earn arbitrage profits as follows: CF Now CF in 1 year Buy gold - 880 S T Short futures 0 920 - S T Borrow $880 880 - 915.20 Total 0 4.80 The forward price must be 915.20 in order for this strategy to yield no profit. 19. If a poor harvest today indicates a worse than average harvest in future years, then the futures prices will rise in response to today’s harvest, although presumably the two-year price will change by less than the one-year price. The same reasoning holds if corn is stored across the harvest. Next year’s price is determined by the available supply at harvest time, which is the actual harvest plus the stored corn. A smaller harvest today means less stored corn for next year which can lead to higher prices. Suppose first that corn is never stored across a harvest, and second that the quality of a harvest is not related to the quality of past harvests. Under these circumstances, there is no link between the current price of corn and the expected future price of corn. The quantity of corn stored will fall to zero before the next harvest, and thus the quantity of corn and the price in one year will depend solely on the quantity of next year’s harvest, which has nothing to do with this year’s harvest. 23-6
Image of page 6
Chapter 23 - Futures, Swaps, and Risk Management 20. The required rate of return on an asset with the same risk as corn is: 1% + 0.5(1.8% – 1%) = 1.4% per month Thus, in the absence of storage costs, three months from now corn would sell for: $2.75 × 1.014 3 = $2.867 The future value of 3 month’s storage costs is: $0.03 × FA(1%, 3) = $0.091
Image of page 7

Info icon This preview has intentionally blurred sections. Sign up to view the full version.

View Full Document Right Arrow Icon
Image of page 8
This is the end of the preview. Sign up to access the rest of the document.

{[ snackBarMessage ]}

What students are saying

  • Left Quote Icon

    As a current student on this bumpy collegiate pathway, I stumbled upon Course Hero, where I can find study resources for nearly all my courses, get online help from tutors 24/7, and even share my old projects, papers, and lecture notes with other students.

    Student Picture

    Kiran Temple University Fox School of Business ‘17, Course Hero Intern

  • Left Quote Icon

    I cannot even describe how much Course Hero helped me this summer. It’s truly become something I can always rely on and help me. In the end, I was not only able to survive summer classes, but I was able to thrive thanks to Course Hero.

    Student Picture

    Dana University of Pennsylvania ‘17, Course Hero Intern

  • Left Quote Icon

    The ability to access any university’s resources through Course Hero proved invaluable in my case. I was behind on Tulane coursework and actually used UCLA’s materials to help me move forward and get everything together on time.

    Student Picture

    Jill Tulane University ‘16, Course Hero Intern