Bodie2-IM-Ch14

CHAPTER14-ForwardandFuturesMarketsEnd-of-ChapterProblems1.Explainwhyaninvestormighttakeanilliquidpositioninaforwardcontractratherthanusinganexchange-tradedfuturescontract?Solution:Thisisasimpletradeoffbetweencontractcustomizationandstandardization.Theexchange-tradedfuturescontractisliquidbecausethestandardizationofthecontractsgivesthemarketsufficientvolumeanddepthtomaintainhighliquidity.Obviouslyiftheinvestoriswillingtosacrificetheliquidityitiseitherbecauseitisnotimportant,aswouldbethecaseiftheinvestorplanstoholdthepositionandconsummatetheforwardcontract,orbecauseithasattractivespecializedcharacteristicsinthedimensionsofmaturity,size,etc.2.Explainindetailwhatismeantbya“speculatortakingashortpositioninAustraliandollarfutures.”Solution:Aspeculatorisaninvestorlookingtoprofitfromforecastsoffuturespotratesandisnotinvestinginthefuturesmarkettohedgeaposition.Ashortpositionisaliabilitysothehasagreedtoselltheassetinquestionatthespecifiedpriceinthefuture.IftheassetisAustraliandollarsthepositionistosellAustraliandollarsforanothercurrency,perhapstheUSdollar.ThustheshortAustraliandollarpositionisequivalenttoalongUSdollarposition.Finallyitisafuturescontractratherthanaforwardcontractsoithasstandardizedfeaturesmakingitliquid,mostlikelytradedactivelyonanexchange.3.Supposeyouarethemanagerofamunicipalelectriccompanythatbuyselectricityonthewholesalemarketanddistibutesittoresidentialcustomersandchargesbypassingonthepriceoftheelectricityplusoperatingcosts.Withoutafixed-pricesupplycontract,whatfuturesmarketpositioncouldyouundertaketohedgetheresident’sexposuretohighercoolingbillsthissummerifanelectricityshortageweretodevelop?Solution:Youwouldwanttotakealongpositioninthefuturesmarketforelectricityineffectlockinginapriceforyourwholesalespurchases.Thusifthespotpriceincreasesandyouhavetopaymoretoacquiretheelectricityyouwillgetacompensatingprofitonyourfuturescontract.Whilethisisapricehedgetheproblemisonthevolume.Youmustmeetyourcustomersdemandsoyoumustforecastthedemandinordertodeterminetheamounttohedgeinthefuturesmarket.4.Supposeyouareadistributorofcanolaseedandyouobservethespotpriceofcanolatobe$7.45perbushelwhilethefuturespricefordeliveryonemonthfromtodayis$7.60.Assuminga$0.10perbushelcarryingcost,whatwouldyoudotohedgeyourpriceuncertainty?Solution:WeseethatFSC+.Ifyoushortthefuturescontract,youcanlockinapriceforyourseedat$7.60perbushel.5.Asaspeculatorobservingthefuturespriceforhogstobedeliveredinsixmonthsyouseeapriceof$14perhundredweightwhileyoubelievethespotpriceforhogswillbe$15insixmonths.Explainwhatpositionyoushouldtakeandhowmuchprofityouexpecttomake.Whataretheexpectedcashflowsfromthisposition?Solution:Yourexpectationisthespotpriceinsixmonthswillbemorethanwhatcanbelockedinthroughthefuturesmarketsoyoushouldgolonginhogfutures.Yourexpectationisthatyouwillseethepriceofthefuturescontractriseastimepassesanditfactincreaseby$1attheendofsixmonths.Soyouneedonlysellthefuturescontractandrealizeyourcashflowandprofit.Chapter14-1Copyright©2009PearsonEducation,Inc.PublishingasPrenticeHall.FinancialEconomicsSolutionsManual6.Youareadealerinkryptoniteandarecontemplatingatradeinaforwardcontract.Youobservethatthecurrentspotpriceperounceofkryptoniteis$180.00,theforwardpricefordeliveryofoneounceofkryptoniteinoneyearis$205.20,andannualcarryingcostsofthemetalare4%ofthecurrentspotprice.a.Canyouinfertheannualreturnonarisklesszero-couponsecurityimpliedbytheLawofOnePrice?b.Canyoudescribeatradingstrategythatwouldgeneratearbitrageprofitsforyouiftheannualreturnontherisklesssecurityisonly5%?Whatwouldyourarbitrageprofitbe,perounceofkryptonite?Solution:Bynoarbitrage,werequirethattherisklessratersatisfy:F0S01r+s+()⋅=S0180:=F0205.2:=s4%:=Solvingforr:rF0−S0+S0s⋅+()−S0:=r0.1=10%Theimplicitrisk-freeratethatyoucanearnbybuyingkryptonite,storingit,andsellingitforwardat$205.20perounceis10%.b.Iftherisklessborrowingrateis5%,youshouldborrowatthatrateandinvestinhedgedkryptonite.Ifyouborrowthe$180youwillenduppaying5%interestand4%carryingcostforatotalcostof:18014%⋅+5%⋅+()⋅196.200=Thustheprofitperouncewillbe$9:205.2196.2−9.000=7.Inferthespotpriceofanounceofgoldifyouobservethepriceofoneounceofgoldforforwarddeliveryinthreemonthsis$435.00,theinterestrateona91-dayTreasurybillis1%andthequarterlycarryingcostasapercentageofthespotpriceis0.2%.Solution:DeducefromthefuturespriceparityconditionforgoldthatF=S0(1+r+s)sothat:F435:=r1%:=s0.2%:=S0F1r+s+:=S0429.842==$429.848.Calculatetheimplicitcostofcarryinganounceofgoldandtheimpliedstoragecostperounceofgoldifthecurrentspotpriceofgoldperounceis$425.00,theforwardpriceofanounceofgoldfordeliveryin273daysis$460.00,theyieldover91daysonazero-couponTreasurybillis2%andthetermstructureofinterestratesisflat.Solution:Over273days,theriskfreerateis12%+()31−0.0612=6.12%.Thereforewehave:FS1r+s+()⋅:=root42516.12%+s+()⋅460−s,[]0.0212=2.12%for273daysroot1APR4+⎛⎜⎝⎞⎟⎠31−2.12%−APR,⎡⎢⎣⎤⎥⎦0.0281=2.81%peryearistheimpliedstoragecostChapter14-2Copyright©2009PearsonEducation,Inc.PublishingasPrenticeHall.FinancialEconomicsSolutionsManualTheimpliedcostofcarryis:FS−35.000=for27