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Dear Mr Moffat,
One of the hedging possibilities in the question is using interest rate futures to protect against falling interest rates.
It is now 1 Nov y-1, we have a receipt of USD foreseen on 1 Feb y, and the money received will be deposited as investment until 1 June y.The kit gives the following solution for the unexpired basis: 2/5 x 1,15 = 0,46.
Can you please clarify why they are using 2/5? Shouldn’t we have 4/7?
(Futures expire on 1 June, 7m from now, and the deposit starts on 1 Feb, 3 m from now).
Thank you for your help!
Because the deposit will start on 1 February we use March futures (which expire on 31 March). We buy March futures now (1 November) and will sell them on the date the deposit starts (1 February).
Between 1 November and 31 March is 5 months.
Between 1 November and 1 February is 3 months.There as at 1 February there are 2 months unexpired, so the unexpired basis is 2/5.
I do suggest that you watch my free lectures on interest rate futures – we are hedging the risk of interest rates changing between now and the start of the loan.
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