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CHAPTER2MechanicsofFuturesMarketsPracticeQuestionsProblem2.1.Distinguishbetweenthetermsopeninterestandtradingvolume.Theopeninterestofafuturescontractataparticulartimeisthetotalnumberoflongpositionsoutstanding.(Equivalently,itisthetotalnumberofshortpositionsoutstanding.)Thetradingvolumeduringacertainperiodoftimeisthenumberofcontractstradedduringthisperiod.Problem2.2.Whatisthedifferencebetweenalocalandafuturescommissionmerchant?Afuturescommissionmerchanttradesonbehalfofaclientandchargesacommission.Alocaltradesonhisorherownbehalf.Problem2.3.SupposethatyouenterintoashortfuturescontracttosellJulysilverfor$17.20perounce.Thesizeofthecontractis5,000ounces.Theinitialmarginis$4,000,andthemaintenancemarginis$3,000.Whatchangeinthefuturespricewillleadtoamargincall?Whathappensifyoudonotmeetthemargincall?Therewillbeamargincallwhen$1,000hasbeenlostfromthemarginaccount.Thiswilloccurwhenthepriceofsilverincreasesby1,000/5,000$0.20.Thepriceofsilvermustthereforeriseto$17.40perouncefortheretobeamargincall.Ifthemargincallisnotmet,yourbrokerclosesoutyourposition.Problem2.4.SupposethatinSeptember2015acompanytakesalongpositioninacontractonMay2016crudeoilfutures.ItclosesoutitspositioninMarch2016.Thefuturesprice(perbarrel)is$88.30whenitentersintothecontract,$90.50whenitclosesoutitsposition,and$89.10attheendofDecember2015.Onecontractisforthedeliveryof1,000barrels.Whatisthecompany’stotalprofit?Whenisitrealized?Howisittaxedifitis(a)ahedgerand(b)aspeculator?AssumethatthecompanyhasaDecember31year-end.Thetotalprofitis($90.50$88.30)1,000$2,200.Ofthis($89.10$88.30)1,000or$800isrealizedonaday-by-daybasisbetweenSeptember2015andDecember31,2015.Afurther($90.50$89.10)1,000or$1,400isrealizedonaday-by-daybasisbetweenJanuary1,2016,andMarch2016.Ahedgerwouldbetaxedonthewholeprofitof$2,200in2016.Aspeculatorwouldbetaxedon$800in2015and$1,400in2016.Problem2.5.Whatdoesastopordertosellat$2mean?Whenmightitbeused?Whatdoesalimitordertosellat$2mean?Whenmightitbeused?Astopordertosellat$2isanordertosellatthebestavailablepriceonceapriceof$2orlessisreached.Itcouldbeusedtolimitthelossesfromanexistinglongposition.Alimitordertosellat$2isanordertosellatapriceof$2ormore.Itcouldbeusedtoinstructabrokerthatashortpositionshouldbetaken,providingitcanbedoneatapricemorefavorablethan$2.Problem2.6.Whatisthedifferencebetweentheoperationofthemarginaccountsadministeredbyaclearinghouseandthoseadministeredbyabroker?Themarginaccountadministeredbytheclearinghouseismarkedtomarketdaily,andtheclearinghousememberisrequiredtobringtheaccountbackuptotheprescribedleveldaily.Themarginaccountadministeredbythebrokerisalsomarkedtomarketdaily.However,theaccountdoesnothavetobebroughtuptotheinitialmarginlevelonadailybasis.Ithastobebroughtuptotheinitialmarginlevelwhenthebalanceintheaccountfallsbelowthemaintenancemarginlevel.Themaintenancemarginisusuallyabout75%oftheinitialmargin.Problem2.7.Whatdifferencesexistinthewaypricesarequotedintheforeignexchangefuturesmarket,theforeignexchangespotmarket,andtheforeignexchangeforwardmarket?Infuturesmarkets,pricesarequotedasthenumberofUSdollarsperunitofforeigncurrency.SpotandforwardratesarequotedinthiswayfortheBritishpound,euro,Australiandollar,andNewZealanddollar.Forothermajorcurrencies,spotandforwardratesarequotedasthenumberofunitsofforeigncurrencyperUSdollar.Problem2.8.Thepartywithashortpositioninafuturescontractsometimeshasoptionsastothepreciseassetthatwillbedelivered,wheredeliverywilltakeplace,whendeliverywilltakeplace,andsoon.Dotheseoptionsincreaseordecreasethefuturesprice?Explainyourreasoning.Theseoptionsmakethecontractlessattractivetothepartywiththelongpositionandmoreattractivetothepartywiththeshortposition.Theythereforetendtoreducethefuturesprice.Problem2.9.Whatarethemostimportantaspectsofthedesignofanewfuturescontract?Themostimportantaspectsofthedesignofanewfuturescontractarethespecificationoftheunderlyingasset,thesizeofthecontract,thedeliveryarrangements,andthedeliverymonths.Problem2.10.Explainhowmarginaccountsprotectinvestorsagainstthepossibilityofdefault.Amarginisasumofmoneydepositedbyaninvestorwithhisorherbroker.Itactsasaguaranteethattheinvestorcancoveranylossesonthefuturescontract.Thebalanceinthemarginaccountisadjusteddailytoreflectgainsandlossesonthefuturescontract.Iflossesareaboveacertainlevel,theinvestorisrequiredtodepositafurthermargin.Thissystemmakesitunlikelythattheinvestorwilldefault.Asimilarsystemofmarginaccountsmakesitunlikelythattheinvestor’sbrokerwilldefaultonthecontractithaswiththeclearinghousememberandunlikelythattheclearinghousememberwilldefaultwiththeclearinghouse.Problem2.11.AtraderbuystwoJulyfuturescontractsonfrozenorangejuice.Eachcontractisforthedeliveryof15,000pounds.Thecurrentfuturespriceis160centsperpound,theinitialmarginis$6,000percontract,andthemaintenancemarginis$4,500percontract.Whatpricechangewouldleadtoamargincall?Underwhatcircumstancescould$2,000bewithdrawnfromthemarginaccount?Thereisamargincallifmorethan$1,500islostononecontract.Thishappensifthefuturespriceoffrozenorangejuicefallsbymorethan10centstobelow150centspe