For the whole assignment you can assume the following market data: US risk-free rate: R (US) = 2.4% p.a. Canadian risk-free rate: R (CA) = 1.7% p.a. F F Several question may require you to retrive additional data accordingly from the CME webpage. Problem 1 (4 points) You are entering a long position in ten CME March 2019 futures on copper at a price of 268.40 cents per pound. Your broker requires the same maintenance margin which is required by the CME and an initial margin that is 125% of the maintenance margin. What price change would lead to a margin call on your account? Under what circumstances are you able to withdraw $1,000 from your margin account? Problem 2 (4 points) You just entered into a short position on CME E-mini S&P 500 futures (8 contracts) with a June delivery at a futures price of 2,683.00. Suppose that over the next five days the futures settle at 2,658, 2,690, 2,725, 2,669, and 2,637. What is the balance of your margin account at the end of each of those days, if the initial margin is 125% of the maintenance margin. Will you receive a margin call, and if so, what is your variation margin? At the end of the five days are you able to withdraw money from your margin account, if so how much? Problem 3 (7 points) Random Length Lumber Futures are traded at the CME with delivery months January, March, May, July, September, and November. Suppose you want to hedge the purchase of 1.1 million nominal board feet of lumber in June 2019 and you can enter into contracts at the settlement price on January 21, 2019. (a) (1 point) What is your trading strategy? (b) (2 points) What is the gain/loss from hedging, if you close out the contract in June at a price of $368.20? (c) (1 point) What is the effective price you will have paid, if the current basis is $1.6 and the basis when you close out the contract in June will have weakened to $1.4? (d) (1 point) What is the gain/loss from the change in the basis? (e) (2 points) Will you be better off or worse off if the basis will strenghten over the life of the hedge? Briefly explain. Problem 4 (7 points) Bombardier receives order to provide 20 TRAXX locomotives. Read the announcement and describe a trading strategy with which Bombardier can eliminate the EURCAD currency risk stemming from this order for each of the two cases below). Be specific about the strategy (# of contracts, position, size of margin account, etc.) (a) (3 points) Assume that Bombardier will receive payment for the contract in early March. (b) (4 points) Assume that Bombardier will receive 25% of the value of the contract immediately, 25% will be paid in early March 2019, and 50% in early June 2019. (Note that there is essentially no liquidity in the EURCAD futures contract for June 2019. Find an alternative strategy to hedge the currency risk!) Problem 5 (13 points) It is Friday, Jan 18 2019 and the NASDAQ 100 closed at S0 = 7157.23. You own a well-diversified portfolio with a current market value of V0 = 12.5 million USD and a portfolio beta of ßp = 1.7. Due to increased volatility in financial markets recently you consider two strategies to reduce your market risk. Strategy A would eliminate market exposure from your portfolio for three months and strategy B would reduce your market exposure to ß * p = 0.5 for the next three months. You plan on using the CME E-mini NASDAQ-100 (assume you can trade it at the settlement price F0 for Jan 18). Assume a dividend yield of d = 1.17%p.a. on the NASDAQ 100. You predict the spot and futures price in three months to be S3 = 6, 899 and F3 = 6, 926. (a) (2 points) Describe the strategy A and B to reduce maket exposure as mentioned. (b) (3 points) Estimate the value of your portfolio in three months without any hedging. (c) (2 points) Estimate the value of your portfolio in three months with strategy A. (d) (2 points) Estimate the value of your portfolio in three months with strategy B. (e) (4 points) Conduct a sensitivity analysis on the value of your portfolio using strategy A. Consider spot and futures prices at -10%, -5%, 0%, +5%, and +10% relative to your predicted values above. Create a table showing the values of your portfolio (one column per scenario, no detailed calculation required – just present the portfolio values). Briefly explain the result of the sensitivity analysis.
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