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Hi sir how are you?Hope doin well.
Could you please help me regarding my following queries please.
If we are suppose to receive 1M dollars in 4 months time and we base in uk.If i want to hedge against the risk of dollar becoming Weaker in 4 maonths time than we want to hedge this risk using futures. if
the futures contracts size are 62500 pounds and today which we assume 1 januaryThe spot rate is $ per pound is 1.5 and
June future price $per pound again is 1.6.How do we get the number of contracts that we we need to buy now to hedge the 1m dollar.
My thought process is we convert the 1m dlolar at 1 january spot rate to get 666667 ponds and divide it by 62500 to get the number of contracts.
Please confirm if i am correct or not.My second question is do we always going to convert counter currency which in this case was $ using spot rate or do we going to use the futures rate that i am going to buy on the date when i am starting the future deal.Because its confusing me as i may have seen some where answer using future rates we are buying to start the deal to convert counter currency.cannot confirm where i have seen it now.Please help me on this regard.
Thank youAnd could you please check march/ june 2016 ques 1b (ii) which is:
i want to know how to estimate the futures price after 3 months using lock in rate both by using current spot rate and june futures.My confusion started as the spot rates are given in dollar per euro
whereas futures are given in euro per dollar. Please help how to approach such situations to find out the lock in rate.
thank yousir if i convert the june futures rate to 4/euro to make it in line with spot rate $/Euro.
which would than give me june future $/euro rate 1.1553.
on 1st of march:
June futures 1.1553
spot rate 1.1585
basis risk (.0032)so futures rate after 3 months which is 31 may would be 1.1553 plus .0032/4.We are adding here because spot rate is higher than futures. Which gives me an estimated futures price after 3 months 1.1561.than we multiply this with 20millions euro receivable as the exchange rate is now on $/euro.Which give me $23122000. Number of contracts would be 23122000/125000=184.9 or 185 slightly over hedged but not material.
sir please tell me if my approach is correct or not. If wrong please guide me.If there is any simpler technique please let me know.
Thank you again.When converting in order to calculate the number of contracts, there are arguments for using the current spot rate, or the lock-in rate, or the current futures price!! They never result in a difference of more than 1 contract (if at all) and it doesn’t matter for the exam – you would get the full marks regardless.
I am not sure what you mean by your second question, the futures deal will always start ‘now’ because the risk being hedged is the risk of the exchange rate changing between ‘now’ and the date of the transaction.
You should convert the spot rate to make it in line with the futures price.
The current spot is 0.8632 (1/1.1585) and the June futures are 0.8656.
So the current basis is 0.0024.There is 3 months to go to the date of the transaction, and 4 months to the expiry of the futures – so 1 month unexpired.
So the change in the basis is 3/4 x 0.0024 = 0.0018So the lock in rate = 0.8632 + 0.0018 = 0.8650
(or, if you prefer, 0.8656 – (1/4 x 0.0024) = 0.8650
However, doing what you did will still get most (and probably all) of the marks, because in P4 the marks are for your workings and proving you understand the ideas rather than for the accuracy of the final answer.
Thanks a lot sir.your prompt reply has always inspired me to ask questions throughout my ACCA study.God bless and hope this may continue for thousands of years.Ameen
Hi john hope you doing well.
could you please help me regarding the following query please.Does delta hedge only applicable to call option holders or does it applicable for put option holders as well?
Thank you.It is applicable to both (and when in the exam there have been put options, the examiner has always told you what to do).
Thanks for your prompt reply. I did not understand though what do you mean by examiner telling us what to do. Can you elaborate a little further please.
I am not sure what you expect me to elaborate on because if the examiner gives you the rule then you follow it 🙂
The only time he has asked about the delta for put options, he specifically wrote in the requirements “You may assume that the delta of a put option is equivalent to N(-d1)”
The question was Marengo in December 2010, which should be in your Revision Kit.Thanks for your reply.I got it now. Could you please tell me if there is any lectures for cinterest rate collar. thank you.
Hi john could you please kindly confirm if i am correct or not for the following statements
For interest collar hedging,
A depositor should buy call option and sell put option
and
A borrower should buy put option and sell call option.Sorry for the pain i have given so much time to understand FRA,Futures and options and when i am clear on that by watching your lectures got stuck with this collar.Please help.
Best is for you to read the note that I have uploaded on collars which should explain it all to you 🙂
You can find it here:
https://opentuition.com/articles/p4/interest-rate-collars/Thanks john again for the brilliant article.So my concept above i mentioned is ok.could you pkease confirm kindly my following statements.
1)If am a borrower i would like to set a maximum cap for the interest i would like to pay so in effect would have to buy a put option.However in order to reduce the premium payments i wil sell a floor in which affect selling a call oprion.
2)If i am depositor would want to set a floor on the minimum interest i would receive so would going to buy a call option but inorder to pay reduced primium i would sell a cap which would be selling a put.
I am clear on how to estimate futures price and finding out gain or loss on the futures.so i am actually able to decide wheter i would exercise the option or the buyer of the option from me would exercise it or not.
I just want to ensure the set up of the collar arrangements in the first place which i have listed in the 1 and 2 statements.
Thank you again from the bottom of my heart.You made hadging easier for me.was terrified when started hedging and now here i am pretty much confident in answering hedging questions.Yours lectures are awesome.
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