Forward Contract

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Financial Risk Management

Financial Risk
Management

Assignment 1

Tutor: Thanh Nguyen
Tutorial Time: 12pm (ED1 401)

Vaishnav Dhimaan (15902398)

Vipul Joshi (15905149)

Financial Risk Management, FIN3FRM

Semester 2, 2012

Assignment 1

Q.1 An investor enters into a short forward contract to sell 100,000 British pounds for U.S. dollars at an exchange rate of 1.9000 U.S. dollars per pound. How much does the investor gain or lose if the exchange rate at the end of the contract is (a) 1.8900 and (b) 1.9200? (2 points)

Solutions:
a) The investor as part of obligation for selling pounds, because of his obligation to sell pounds got to send is obliged to sell pounds for $1.5000 when their market price is only $1.4900. She, therefore, makes a gain of ($1.5000 − $1.4900) · 100, 000 = $1, 000.

(b) In this situation, the investor is obliged to sell pounds for $1.5000 when their market price is $1.5200. She, therefore, loses ($1.5200 − $1.5000) · 100, 000 = $2, 000.

Q.2 Suppose that on October 24, 2009, a company sells one April 2010 live-cattle futures contract. It closes out its position on January 21, 2010. The futures price (per pound) is 91.20 cents when it enters into a contract, 88.30 cents when it closes out its position, and 88.80 cents at the end of December 2009. One contract is for the delivery of 40,000 pounds of cattle. What is the total profit? How is it taxed if the company is (a) a hedger and (b) a speculator? Assume that the company has a December 31 year end (2 points).

Answer The total profit is
40,000 * (0.9120 – 0.8830 ) = $ 1,160

a) If you are a hedger this is all taxed in 2009.
b) If you are a speculator,
40,000 * (0.9120 – 0.8880) = $960 is taxed in 2009. 40,000 * (0.8880 – 0.8830) = $ 200 is taxed in 2010.

Q.3 Suppose that the standard...
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