Suppose that the US government recently announced that subsidies for fresh milk producers will be gradually phased out over the next year. Newspapers say that there are expectations of a 40% increase in the spot price of fresh milk over the next year.
Option prices on fresh milk trading on the Chicago Mercantile Exchange (CME) reflect expectations of this 40% increase in spot prices over the next year. Similarly to the rest of the market, you believe that prices will rise by 40% over the next year.
What option trades are likely to be profitable, or to be more specific, result in a positive Net Present Value (NPV)?
Assume that:
- Only the spot price is expected to increase and there is no change in expected volatility or other variables that affect option prices.
- No taxes, transaction costs, information asymmetry, bid-ask spreads or other market frictions.
You're advising your superstar client 40-cent who is weighing up buying a private jet or a luxury yacht. 40-cent is just as happy with either, but he wants to go with the more cost-effective option. These are the cash flows of the two options:
- The private jet can be bought for $6m now, which will cost $12,000 per month in fuel, piloting and airport costs, payable at the end of each month. The jet will last for 12 years.
- Or the luxury yacht can be bought for $4m now, which will cost $20,000 per month in fuel, crew and berthing costs, payable at the end of each month. The yacht will last for 20 years.
What's unusual about 40-cent is that he is so famous that he will actually be able to sell his jet or yacht for the same price as it was bought since the next generation of superstar musicians will buy it from him as a status symbol.
Bank interest rates are 10% pa, given as an effective annual rate. You can assume that 40-cent will live for another 60 years and that when the jet or yacht's life is at an end, he will buy a new one with the same details as above.
Would you advise 40-cent to buy the or the ?
Note that the effective monthly rate is ##r_\text{eff monthly}=(1+0.1)^{1/12}-1=0.00797414##
Question 315 foreign exchange rate, American and European terms
If the current AUD exchange rate is USD 0.9686 = AUD 1, what is the European terms quote of the AUD against the USD?
The below screenshot of Microsoft's (MSFT) details were taken from the Google Finance website on 28 Nov 2014. Some information has been deliberately blanked out.
What was MSFT's market capitalisation of equity?
A trader buys one crude oil European style put option contract on the CME expiring in one year with an exercise price of $44 per barrel for a price of $6.64. The crude oil spot price is $40.33. If the trader doesn’t close out her contract before maturity, then at maturity she will have the:
The standard deviation of monthly changes in the spot price of corn is 50 cents per bushel. The standard deviation of monthly changes in the futures price of corn is 40 cents per bushel. The correlation between the spot price of corn and the futures price of corn is 0.9.
It is now March. A corn chip manufacturer is committed to buying 250,000 bushels of corn in May. The spot price of corn is 381 cents per bushel and the June futures price is 399 cents per bushel.
The corn chip manufacturer wants to use the June corn futures contracts to hedge his risk. Each futures contract is for the delivery of 5,000 bushels of corn. One bushel is about 127 metric tons.
How many corn futures should the corn chip manufacturer buy to hedge his risk? Round your answer to the nearest whole number of contracts. Remember to tail the hedge.
Question 802 negative gearing, leverage, capital structure, no explanation
Which of the following statements about ‘negative gearing’ is NOT correct?
A firm conducts a two-for-one stock split. Which of the following consequences would NOT be expected?
What is the Cash Conversion Cycle for a firm with a:
- Payables period of 1 day;
- Inventory period of 50 days; and
- Receivables period of 30 days?
All answer options are in days: