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Problem [i]

The standard deviation of monthly changes in the spot price of live cattle is (in cents per pound) 1.2. The standard deviation of monthly changes in the futures price of live cattle the closest contract is 1.4. The correlation between the futures price changes and the spot price changes is 0.7. It is now October 15. A beef producer is committed to purchasing 200,000 pounds of live cattle on November 15. The producer wants to use December live-cattle futures contracts to hedge its risk. Each contract is for the delivery of 40,000 pounds of cattle. How many contracts will be needed for hedging purpose?

Problem [ii]

On July 1, an investor holds 50,000 shares of a certain stock. The market price is $30 per share. The investor is interested in hedging against movements in the market over the next month and decides to use the September Mini S&P 500 futures contract. The index futures price is 1,500 and one contract is for delivery of $50 times the index. The beta of the stock is 1.3. a. What strategy should the investor follow? (Short position or long position in the futures contract) b. How many futures contracts are needed for the hedging? c. Under what circumstances will it be profitable?

[i]

[ii]