Futures Contracts, Risk Management

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An Australian company purchases wheat on a regular basis and is concerned about rising grain prices. It is now June and the company is in the process of planning their October wheat purchases, which consists of 1,000 tonnes. In order to hedge against rising prices, the company has a choice of either entering a forward contract for October delivery at a price of $250/tonne or using a November grain futures contract. The current futures price for this contract is $240/tonne. The company opts for the November grain futures contract, and hedges their entire October purchases. The contract size is $20/tonne.

(a) Should the company take a long or short position in the futures contract?

(b) How many contracts are required?

(c) It is now October, and the relevant futures price is $280 and the cash (spot) price is $300.

(i) What is the total gain or loss on the company’s futures exposure in $/tonne?

(ii) What is the net cost of the company’s October wheat purchases in $/tonne?

(iii) What is the total cost of the company’s October wheat purchases in $?

(iv) If the company had opted for the forward contract instead of using futures, what would have been the total cost of the company’s October wheat purchases in $?

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