# Question: Suppose that copper costs 3 00 today and the continuously compounded

Suppose that copper costs $3.00 today and the continuously compounded lease rate for copper is 5%. The continuously compounded interest rate is 10%. The copper price in 1 year is uncertain and copper can be stored costlessly.

a. If you short-sell a pound of copper for 1 year, what payment do you have to make to the copper lender? Would it make sense for a financial investor to store copper in equilibrium?

b. Show that the equilibrium forward price is $3.154.

c. In what sense is $3.316 (= 3× e0.10) a maximum possible forward price?

d. Explain the circumstances in which any price below $3.316 could be the observed forward price, without giving rise to arbitrage. (Be sure to consider the possibility that the lease rate may not be 5%.)

a. If you short-sell a pound of copper for 1 year, what payment do you have to make to the copper lender? Would it make sense for a financial investor to store copper in equilibrium?

b. Show that the equilibrium forward price is $3.154.

c. In what sense is $3.316 (= 3× e0.10) a maximum possible forward price?

d. Explain the circumstances in which any price below $3.316 could be the observed forward price, without giving rise to arbitrage. (Be sure to consider the possibility that the lease rate may not be 5%.)

**View Solution:**## Answer to relevant Questions

Suppose the gold spot price is $300/oz, the 1-year forward price is 310.686, and the continuously compounded risk-free rate is 5%. a. What is the lease rate? b. What is the return on a cash-and-carry in which gold is not ...Suppose you observe the following par coupon bond yields: 0.03000 (1-year), 0.03491 (2-year), 0.03974 (3-year), 0.04629 (4-year), 0.05174 (5-year). For each maturity year compute the zero-coupon bond prices, effective annual ...Suppose the September Eurodollar futures contract has a price of 96.4. You plan to borrow $50m for 3 months in September at LIBOR, and you intend to use the Eurodollar contract to hedge your borrowing rate. a. What rate can ...A 6-year bond with a 4% coupon sells for $102.46 with a 3.5384% yield. The conversion factor for the bond is 0.90046. An 8-year bond with 5.5% coupons sells for $113.564 with a conversion factor of 0.9686. (All coupon ...Using the same information as the previous problem, suppose the interest rate on the borrowing date is 7.5%. Determine the dollar settlement of the FRA assuming a. Settlement occurs on the date the loan is initiated. b. ...Post your question