Derivative Securities

Derivative Securities

Question

Question:

This assessment is intended to provide an opportunity to analyze different investment options based on their respective risks and returns in order to select the most suitable investment opportunity.

You are expected to be able to read beyond textbooks and apply knowledge gained from working environments and real-life examples from case studies to demonstrate competence in the areas addressed in the questions. We encourage you to make specific and detailed comments rather than general comments.

Individual Assignment

Imagine now is his July 10, 2020. A UK company has an invoice for $6.65 million due on 26th August 2020. They are concerned that exchange rate fluctuations may increase the pound cost, so they are effectively fixing the pound cost through foreign exchange futures. The current spot rate is $/£1.71110. £/$ futures (contract size £) are available on the CME Europe exchange.

Expires in September – 1.71035

Expires in December – 1.70865

The contract size is £100,000 and the futures are quoted in USD per £1. The futures contract specification states a tick size of $0.00001 and a tick value of $1.

August 26th results:

The following happened on August 26th

Correct Answer: Spot Rate – $/£1.65770

September Futures Price – $/£1.65750

In the scenario above, his CME contract specs for £/$ futures state that per contract he requires an initial margin of $1,375. The maintenance margin is $1,250 per contract. The settlement price for this futures contract is:

July 11 (Friday) settlement price 1.70925

July 14 (Mon) Settlement price 1.70805

July 15 (Tuesday) settlement price 1.71350

Required:

1. Ignore initial and maintenance margin requirements and use futures hedging to determine net cash flow.
2. Determine the daily balance of your margin account.