Question

Archer Daniels Midland (ADM) projects that they need to buy 20 million bushels of corn in June for the production of ethanol that month. Suppose that the current date is February and ADM is planning ahead for corn it will need in June. How many contracts should ADM use in its hedge? Note: the underlying asset in the corn futures contract is 5,000 bu. (Round to the nearest whole number.)

Answer 1

Given information- Archer Daniels Midland (ADM) need to buy 20 million bushels of corn in June

- underlying asset in the corn futures contract is 5,000 bushels

Find- Number of contracts that ADM should use in its hedge?

A future contract is a contract between two parties to buy/sell a particular asset at a predetermined future date and price. The exchange acts as an intermediary in this contract to reduce the counterparty risk. Many trades/ businesses enter into futures contracts to hedge their existing business risk.

As we need to buy 20 million bushels and 1 contract is equivalent to 5,000 bushels, we will require

=20,000,000/ 5,000

=4,000 contracts of corn futures