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Question 4
1. Why didn’t the answer use the mid-market rate (instead of the spot) to estimate the basis? Is this a principle rather than a rule?
2. The actual receipt was converted using the estimated futures rate. I thought we would convert at that day’s spot, then add or deduct the gain/loss arising on the futures deal so there’s no gain or loss arising. I don’t really understand what happened there. Please clarify.
1 It is a principle rather than a rule (although using mid-market would in fact have been more sensible).
2 Despite the wording in the answer, the rate used is the lock-in rate (which gives the net effect of converting at spot together with the gain/loss on the futures). I do explain the lock-in rate in my lectures.
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