Question

1. Which of the following is NOT an important reason that it is difficult to achieve a perfect hedge?

options:

	Maturity mismatch
	Default on the futures contract
	Size disparity
	Change in basis
	Cross hedge

For the following questions, indicate whether a long or short hedge is needed. If no hedge is needed choose "neither" Remember that all trades are on the CBOT.

2. An underwriter of bonds has just bought $1 billion of XYZ Industry bonds from the company and intends to resell the bonds to its customers.

options:

	short
	long
	neither

3. A baker has a contract to sell bread to Kroger at a fixed price and has no inventory of flour.

options:

	short
	long
	neither

4. A banker has a firm commitment to lend a customer $2 million in July 2006 at 8% interest. The customer can decide whether to take the money in July.

options:

	short
	long
	neither

A refiner owns 30 million barrels of oil that will be processed and sold to British Petroleum at a fixed price.

5. A farmer is growing a crop to be sold at harvest next May.

options:

	short
	long
	neither

6. A refiner owns 30 million barrels of oil that will be processed and sold to British Petroleum at a fixed price.

options:

	short
	long
	neither

Answer 1

1]

Default on the futures contract - This is NOT an important reason that it is difficult to achieve a perfect hedge.

Differences in maturity, contract size, basis and cross hedge are all important reasons that it is difficult to achieve a perfect hedge.

2]

A short hedge is needed because the underwriter intends to resell the bonds to its customers. The underwriter needs to hedge against a fall in bond prices

3]

A long hedge is needed because the baker needs to purchase flour and needs to hedge against a rise in flour prices

4]

A long hedge is needed because the banker needs to hedge against a rise in interest rates

5]

A short hedge is needed because the farmer needs to hedge against a fall in crop prices

6]

A short hedge is needed because the refiner needs to hedge against a fall in oil prices