ABC limited sells over 6 billion cans of its energy drink each year. Each can is made from aluminium. You have a friend (who has a friend who knows someone who works at ABC head office in Austria) who mentioned a rumour that ABC will soon announce that it is moving away from aluminium can packaging and exclusively adopting plastic bottles. If this transpires, global demand for aluminium will fall significantly. This leads you to believe that the price of aluminium may fall in coming months. You visit the webpage for the Shanghai Mercantile Exchange and discover that they trade futures contract written on alumina. The current (spot) price of alumina is $460 per metric ton. Alumina futures contracts with delivery in Jun-18 are quoted at $480 per metric ton. Each alumina futures contract covers the delivery of 100 metric tons of alumina. You will trade five (5) futures contracts.

Required:

a) With an eye towards profiting from a falling alumina price, will you enter long or short alumina futures contracts? Briefly explain the rationale for your answer.

b) Several weeks after entering five Jun-18 alumina futures contracts as per part (a), Red Bull announce their move to plastic bottles and the price of alumina plummets. The Jun-18 futures are now quoted at $400 per metric ton. Describe what transactions you must make to close out your futures position and calculate the total profit or loss from your trading.

Answer rating: 100% (QA)

a To profit from a falling alumina price you would enter into short alumina futures contracts The ra... View the full answer