Question

10. What should a trader do when the one-year forward price of an asset is too low? Assume that the asset provides no income. A. The trader should borrow the price of the asset, buy one unit of the asset and enter into a short forward contract to sell the asset in one year. B. The trader should borrow the price of the asset, buy one unit of the asset and enter into a long forward contract to buy the asset in one year. C. The trader should short the asset, invest the proceeds of the short sale at the risk-free rate, enter into a short forward contract to sell the asset in one year D. The trader should short the asset, invest the proceeds of the short sale at the risk-free rate, enter into a long forward contract to buy the asset in one year BONUS QUESTION miesto oboz A company will buy 1000 units of a certain commodity in one year. It decides to hedge 80% of its exposure using futures contracts. The spot price and the futures price are currently $100 and $90, respectively. The spot price and the futures price in one year turn out to be $112 and $110, respectively. What is the average price paid for the commodity? A. $92 B. $96 $102 D. $106

Answer 1

Ans 10) Since the future price is below to its fundamental value one should long on the future and short on the spot price. Thus the correct answer is option D i.e., trader should short on the asset and long on the future contract.