Alex Andrew, who manages a $95 million large-capitalization U.S. equity portfolio, currently forecasts that equity markets will decline soon. Andrew prefers to avoid the transaction costs of making sales but wants to hedge $15 million of the portfolio's current value using S&P 500 futures.
Because Andrew realizes that his portfolio will not track the S&P 500 Index exactly, he performs a regression analysis on his actual portfolio returns versus the S&P futures returns over the past year. The regression analysis indicates a risk-minimizing beta of 0.88 with an R2 of 0.92.
Futures Contract Data
S&P 500 futures price ........... 1,000
S&P 500 index ............. 999
S&P 500 index multiplier ........ 250
a. Calculate the number of futures contracts required to hedge $15 million of Andrew’s portfolio, using the data shown. State whether the hedge is long or short. Show all calculations.
b. Identify two alternative methods (other than selling securities from the portfolio or using futures) that replicate the strategy in Part a. Contract each of these methods with the futures strategy.

  • CreatedDecember 17, 2014
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