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ABC Company is in the energy sector. The company has a three-month R60 000 000 obligation starting in nine months' time. The Treasury Manager of the company is concerned about a possible change in interest rates in the future and wants to hedge against that. He requests quotes for a forward rate agreement (FRA) from a bank. The bank immediately sends him the following

quotes:

1 x 4 6.10-206 96.35 44

2 x 56.16 - 256 126.39 48

3 x 66.20 - 299 126.49 56

3 x 96.28 - 399 156.53 59

ABC Company also wants to hedge its exposure to crude oil prices. The company intends to use 270-day future contracts on the West Texas Intermediate (WTI) oil price. The WTI oil price is currently at $52.36 per barrel. The current continuously compounded nine-month Treasury rate is 2.5% per annum. The storage cost is estimated at 1% of the spot price. The convenience

yield for holding oil is equal to 6% of the spot price.

Hint: use a 365-day-count convention. Show all calculations and round off your final answer to two (2) decimal places.

2.1What is the appropriate FRA rate in which the Treasury Manager would be interested? (1)

2.2What position should the Treasury Manager take on behalf of ABC Company for the FRA? (1)

2.3At what rate is the FRA transaction executed? (1)

2.4Suppose that in nine months' time, the three-month (92-day) Johannesburg Interbank Average Rate (JIBAR) is quoted as 6.40%. Determine the FRA settlement amount and explain the settlement between the two counterparts, clearly identifying who makes the payment. (3)

2.5Suppose ABC Company wants to hedge against the risk of future oil price increases. What position on oil future contracts should the company take? Motivate your answer. (2)

2.6Calculate the theoretical 270-day futures price on WTI oil. (2)

2.7Using the information in Question 2.6, explain the steps the company could now take to lock in an arbitrage profit if the quoted price on the 270-day WTI oil contract is $46.50. (2)

Answer rating: 100% (QA)

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