You are the chief risk officer (CRO) of an agricultural corporation. You expect to sell 100M bushels of corn in September. You are concerned about changing prices. You are considering three strategies: (i) Do nothing and wait until September to trade at the spot price; (ii) Use futures; (iii) Use options. The current spot price is $5.97/bu. The current risk-free rate of interest is 2% p.a.c.c. September futures price is $5.58/bu. September 5.60 call on corn is priced at $0.25; September 5.60 put is priced at $0.19. Assume each derivative contract is for 1M bushel of corn.

a. If you chose strategy (ii), what position do you need to take?

b. If you chose strategy (iii), what type of contract and what position do you need to take?

c. If the spot price in September is $5.41/bu, what is the net cash flow from each strategy? Show calculations.

d. Repeat (c), but suppose the spot price is $5.73/bu.

e. As the CRO, which strategy would you choose? Discuss your thoughts on each, list the pros and cons.

Answer rating: 100% (QA)

Answer a If you chose strategy ii to use futures you would need to take a long position in the futures contract This means you would agree to buy the ... View the full answer