futures and options test 1

a company enters into a long futures contract to buy 1,000 units of a commodity for $60 per unit. the initial margin is $6,000 and the maintenance margin is $4,000. what futures price will allow $2,000 to be withdrawn from the margin account?

1000(x-60) = $2,000 loss x-60 = 2 x = $62

the spot price of an investment asset that provides no income is $30 and the risk free rate for all maturities (with continuous compounding) is 10%. what is the three-year forward price?

30e^(0.1x3) = $40.50

which entity in the US takes primary responsibility for regulating futures market?

Commodities Futures Trading Commission (CFTC)

what happens if a cash market price gains relative to a futures price over time?

basis strengthens and benefits the short hedger

a farmer's crop is still in the field. his cash market position is

long

spot price

the price for immediate deliver

what will benefit a long hedge after it is initiated?

weaker basis (basis becoming less + or more -)

if prices levels go lower after a short hedge is initiated, what are the results?

loss in the cash market and gain in the futures market

what is the relationship between a cash market position and a futures market position in a hedge?

opposite of each other

(math) a trader enters into a short forward contract on 100 million yen. the forward exchange rate is $0.0080 per yen. how much does the trader gain or lose if the exchange rate at the end of the contract is (a) $0.0074 per yen? (b) $0.0091 per yen?

(a) $60,000 profit (b) $110,000 loss

if you estimate the local cash price will be 15 under the march futures price at the time you deliver corn, the approx net selling price you can lock in by selling a march futures contract is $5.50 is:

$5.35

on march 1 a commodity's spot price is $60 and its august futures price is $59. on july 1 the spot price is $64 and the august futures price is $63.50. a company entered into a futures contract on march 1 to hedge its purchase of the commodity on july 1. it closed out its position on july 1. what effective price (after taking account of hedging) paid by the company?

$59.50

one orange juice futures contract is on 15,000 pounds of frozen concentrate. suppose that in sept 2016 a company sells a march 2017 orange juice futures contract for 1200 cents per pound. in dec 2016 the futures price is 110 cents. in feb 2017 the futures price is 125 cents. what is the company's profit or loss on the contract?

$750 loss

(math) a company enters into a short futures contract to sell 5,000 bushels of wheat for 750 cents per bushel. the initial margin is $3,000 and the maintenance margin is $2,000. (a) what price change would lead to a margin call? (b) under what circumstances could $1,500 be withdrawn from the margin account?

(a) $7.70 USD/bu. (b) $7.20

you sell one December futures contract when the futures price is $1,010 per unit. each contract is on 100 units and the initial margin per contract that you provide is $2,000. the maintenance margin per contract is $1,500. during the next day the futures price rises to $1,012 per unit. what is the balance of your margin account at the end of the day?

100(1012-1010) = 200 2000 - 200 = $1,800

a company enters into a short futures contract to sell 50,000 units of a commodity for 70 cents per unit. the initial margin is $4,000 and the maintenance margin is $3,000. what is the futures price per unit above which there will be a margin call?

50,000(x-0.7) = $1000 loss x-0.7 = 0.02 x = 0.72 $0.72

an investor shorts 100 shares when the share price is $50 and closes out the position six months later when the share price is $43. the shares pay a dividend of $3 per share during the six months. how much does the investor gain?

700 - 300 = $400

hedging

taking a futures position opposite to one's current cash market position

how are gains and losses on futures positions settled?

each day after the close of trading

which of the following is the only variable element of a standardized futures contract?

price

where does a commodity's futures price come from ?

prices are discovered through bids and offers between buyers and sellers

what does a limit order to sell at $2 mean? when might it be used?

sale will be executed when price hits $2 or higher

describe the hedging strategy for feeder cattle

short live cattle futures long corn futures long feeder cattle futures

trader A enters into futures contracts to buy 1 million euros for 1.3 million dollars in three months. trader b enters in a forward contract to do the same thing. the exchange rate (dollars per euro) declines sharply during the first two months and then increases for the third month to close at 1.3300. ignoring daily settlement... (a) what is the total profit of each trader? (b) when the impact of daily settlement is taken into account, which trader does better?

(a) 1000000(0.03) = $30,000 profit (B) trader A will lose on the sharp decline of the exchange rate since their accounts are settled daily instead of just at the end of the contract

what do speculators do?

-assume market price risk while looking for profit opportunities -add to market liquidity -facilitate hedging

suppose that the standard deviation of monthly changes in the price of commodity A is $2. the standard deviation of monthly changes in a futures price for a contract on commodity B (which is similar to commodity A) is $3. the correlation between the futures price and the commodity price is 0.9. what hedge ratio should be used when hedging one month exposure to the price of commodity A?

0.9(2/3) = 0.6

when can futures trading gains credited to a customer's margin account be withdrawn by the customer?

as soon as the funds are credited (at the end of the day/daily settlement)

tailing the hedge

calculates the optimal number of contracts but incorporates adjustment for daily settlement of futures contracts

which market has an impact on the final net result of a long futures hedge?

cash and futures markets

what market condition is necessary for an effective long hedge?

correlation between the cash and futures market

who is on the other side of a hedger's position?

could be either a hedger or a speculator

a short forward contract that was negotiated some time ago will expire in three months and has a delivery price of $40. the current forward price for three month forward contract is $42. the three month risk-free interest rate (with continuous compounding is 8%. what is the value of the short forward contract?

f = (k -F0)e^-rt f= -1.96

a company knows it will have to pay a certain amount of foreign currency to one of its suppliers in the future... how will the company lock in the exchange rate

forward contract

on march 1 the price of a commodity is $1,000 and the december futures price is $1,015. on nov 1 the price is $980 and the dec futures price is $981. a producer of the commodity entered into a dec futures contract on march 1 to hedge the sale of the commodity on nov 1. it closed out its position on nov 1. what is the effective price (after taking account of hedging) received by the company for the commodity?

gain on futures = 1015 - 981 = 34 price = 980 + 34 = $1,014

the premise that makes hedging possible is cash and futures prices....

generally change in the same direction by similar amounts

a company due to pay a certain amount of foreign currency in the future decides to hedge with futures contracts. what is the advantage of hedging?

it leads to a more predicable exchange rate being paid

optimal hedge ratio

slope of the best fit line when the change in the spot price (on the y axis) is regressed against the change in the futures price (on the x axis)

futures contracts are

standardized contracts to make or take delivery of commodity at a predetermined place and tie

basis

the difference between the local cash price and a futures price

futures contracts trade with every month as a delivery month. a company is hedging the purchase of the underlying asset on june 15. which futures contract should it use?

the july contract

what does a stop order (stop-loss) to sell at $2 mean? when might it be used?

the sale for that commodity will be executed when the price hits $2 or less (sell at best price) can be used to minimize loss on a position, protect profit no an existing position or initiate a new position

what happens to the obligations of most futures contracts used in a hedge?

they are closed-out by an offsetting transaction

assume your supplier's cash market price is generally quoted over the CME group's futures price. if you hedge by purchasing a futures contract, a good time to purchase the physical product and lift the hedge would be

when the basis is relatively weak

if you have a long (buy) futures position and prices decrease

you may receive a margin call