Exam 21: Forward and Futures Contracts

Exhibit 21.4 Use the Information Below for the Following Problem(S) A 3-month T-bond futures contract (maturity 20 years, coupon 6%, face $100,000) currently trades at $98,781.25 (implied yield 6.11%). A 3-month T-note futures contract (maturity 10 years, coupon 6%, face $100,000) currently trades at $101,468.80 (implied yield 5.80%). Assume semiannual compounding. -Refer to Exhibit 21.4.If you expected the yield curve to flatten,the appropriate NOB futures spread strategy would be

Exhibit 21.5 Use the Information Below for the Following Problem(S) The S&P 500 stock index is at 1100. The annualized interest rate is 3.5% and the annualized dividend is 2%. -Refer to Exhibit 21.5.If the futures contract was currently available for 1050,indicate the appropriate strategy that would earn an arbitrage profit.

The pure expectations hypothesis suggests futures prices serve as unbiased forecasts of future spot prices.

Exhibit 21.9 Use the Information Below for the Following Problem(S) As a portfolio manager, you are responsible for a $150 million portfolio, 90 percent of which is invested in equities, with a portfolio beta of 1.25. You are utilizing the S&P 500 as your passive benchmark. Currently the S&P 500 is valued at 1202. The value of the S&P 500 futures contract is equal to $250 times the value of the index. The beta of the futures contract is 1.0. -Refer to Exhibit 21.9.If you anticipate a cash inflow of $2 million next week,how many futures contracts should you buy or sell in order to mitigate the effect of this inflow on the portfolio's performance (rounded to the nearest integer)?

Exhibit 21.2 Use the Information Below for the Following Problem(S) Assume you are the Treasurer for the Johnson Pharmaceutical Company and in late July 2004, the company is considering the sale of $500 million in 20-year debentures that will most likely be rated the same as the firm's other debt issues. The firm would like to proceed at the current rate of 8.5%, but you know that it will probably take until November to bring the issue to market. Therefore, you suggest that the firm hedge the pending issue using Treasury bond futures contracts which each represent $100,000. Casel Case2 Current Value - July 2004 8.5\% 8.5\% Bond Rate 87.75 87.75 Dec. 2004 Treasury Bonds Estimated Values - Nov. 2004 9.5\% 7.5\% Bond Rate 85.60 91.65 Dec. 2004 Trea5ury Bonds -Refer to Exhibit 21.2.How you would go about hedging the bond issue?

The cost-of-carry model is useful for pricing future contracts.

Exhibit 21.9 Use the Information Below for the Following Problem(S) As a portfolio manager, you are responsible for a $150 million portfolio, 90 percent of which is invested in equities, with a portfolio beta of 1.25. You are utilizing the S&P 500 as your passive benchmark. Currently the S&P 500 is valued at 1202. The value of the S&P 500 futures contract is equal to $250 times the value of the index. The beta of the futures contract is 1.0. -Refer to Exhibit 21.9.How many contracts should you buy or sell in order to reduce the portfolio beta to 0.80 (rounded to the nearest integer)?

Exhibit 21.2 Use the Information Below for the Following Problem(S) Assume you are the Treasurer for the Johnson Pharmaceutical Company and in late July 2004, the company is considering the sale of $500 million in 20-year debentures that will most likely be rated the same as the firm's other debt issues. The firm would like to proceed at the current rate of 8.5%, but you know that it will probably take until November to bring the issue to market. Therefore, you suggest that the firm hedge the pending issue using Treasury bond futures contracts which each represent $100,000. Casel Case2 Current Value - July 2004 8.5\% 8.5\% Bond Rate 87.75 87.75 Dec. 2004 Treasury Bonds Estimated Values - Nov. 2004 9.5\% 7.5\% Bond Rate 85.60 91.65 Dec. 2004 Trea5ury Bonds -Refer to Exhibit 21.2.What is the dollar gain or loss assuming that future conditions described in Case 1 actually occur? (Ignore commissions and margin costs,and assume a naive hedge ratio.)

The Chicago Board of Trade (CBT)uses conversion factors to correct for differences in deliverable bonds.

A riskless stock index arbitrage profit is possible if the following condition holds: F₀,T = S₀(1 + rf - d)ᵀ,where spot price now is S₀,value now of a futures contract expiring at time T is (F₀,T),rf is the risk free rate and d is the dividend.

A bond portfolio manager expects a cash outflow of $35,000,000.The manager plans to hedge potential risk with a Treasury futures contract with a value of $105,215.The conversion factor between the CTD and the bond specified in the Treasury futures contract is 0.85.The duration of bond portfolio is 8 years,and the duration of the CTD bond is 6.5 years.Indicate the number of contracts required and whether the position to be taken is short or long.

Since futures contracts are "marked-to-market" daily,the gains and losses are settled daily.

A backwardated futures market occurs when

Exhibit 21.5 Use the Information Below for the Following Problem(S) The S&P 500 stock index is at 1100. The annualized interest rate is 3.5% and the annualized dividend is 2%. -Refer to Exhibit 21.5.If the futures contract was currently available for 1250,indicate the appropriate strategy that would earn an arbitrage profit.

Exhibit 21.4 Use the Information Below for the Following Problem(S) A 3-month T-bond futures contract (maturity 20 years, coupon 6%, face $100,000) currently trades at $98,781.25 (implied yield 6.11%). A 3-month T-note futures contract (maturity 10 years, coupon 6%, face $100,000) currently trades at $101,468.80 (implied yield 5.80%). Assume semiannual compounding. -Refer to Exhibit 21.4.If you expected the yield curve to steepen,the appropriate NOB futures spread strategy would be

Assume that you manage an equity portfolio.The portfolio beta is 1.15.You anticipate a rise in equity values and wish to increase equity exposure on $500 million of the portfolio.Calculate the number of contracts you would need to hedge your position and indicate whether you would go short or long.Assume that the price of the S&P 500 futures contract is 1105 and the multiplier is 250.

Exhibit 21.11 Use the Information Below for the Following Problem(S) Consider a portfolio manager with a $10,000,000 equity portfolio under management. The manager wishes to hedge against a decline in share values using stock index futures. Currently a stock index future is priced at 1350 and has a multiplier of 250. The portfolio beta is 1.50. -Refer to Exhibit 21.11.Calculate the number of contract required to hedge the risk exposure and indicate whether the manager should be short or long.

Exhibit 21.7 Use the Information Below for the Following Problem(S) Assume that you observe the following prices in the T-Bill and Eurodollar futures markets T-Eill Euradollar September 95.24 94.6 -Refer to Exhibit 21.7.If you expected the TED spread to narrow over the next month then an appropriate strategy would be to

Assume that you manage an equity portfolio.The portfolio beta is 1.15.You anticipate a decline in equity values and wish to hedge $500 million of the portfolio.Calculate the number of contracts you would need to hedge your position and indicate whether you would go short or long.Assume that the price of the S&P 500 futures contract is 1105 and the multiplier is 250.

The bond that maximizes the difference between the invoice price and the delivery price is referred to as the