In January, May futures for sugar (world) trades for 7 cents per pound, while sugar (domestic) trades for 22 cents per pound. You consult technical charts and conclude that their spread is going to widen to 20 cents per pound.
A. Suggest a trading strategy for exploiting such opportunities.
B. If the spread indeed widens as predicted, what is your trading profit if you trade seven contracts of each type, with 112,000 pounds in each contract?
A. If the spread has to widen, to 20 cents, the domestiv sugar has to increase to 27 cents per pound. The trading that can be to exploit such an opportunity is to go long on may futures, that is to buy the may sugar (domestic) futures.
B. So, the profit per pound of sugar is 27-22 = 5 cents per pound
If you trade 7 contracts, the total pounds of sugar = 112,000*7 = 784,000 pounds.
Since profit per pound is 5 cents or $0.05, the total profit = 784,000*0.05 = $39,200
Trading profit = $39,200
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