Question

A company wants to sell 500 units of a good in 4 months (which will be...

A company wants to sell 500 units of a good in 4 months (which will be available then). To offset the risk to which it is exposed, the company is considering using a Forward Contract. Looking for the right contract, the company identifies a Forward Contract with a maturity of 4 months and with the same underlying asset, for which the following applies: The value of the Forward Contract today is $ 2.41 per unit of goods and the size of the Forward Contract is 500 units of goods. In addition, the current price of the unit is $ 6.22 and in 4 months from today it is $ 7.12. If you were the company, what strategy would you follow? (If you need it, the four-month interest-free rate is 6% on an annual basis).

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Answer #1

Since the spot rate after 4 months = $ 7.12 > forward rate = $ 2.41; I will not enter into any forward contract

If the current spot rate = S = 6.22; I may sell the product today and invest the proceed @ risk free rte of r = 6% for t = 4 months to get a maturity value of = S x (1 + rt) = 6.22 x (1 + 6% x 4/12) = $ 6.34 < the spot rate after 4 months = $ 7.12

hence, I will not enter into the strategy of selling now.

Hence, the strategy to follow will be "Do nothing". Sell the 500 units of a good in 4 months'time at $ 7.12 per unit

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