Chapter 17, Problem 1PS

Summary Introduction

Adequate Information:

Contract price as on January 1 - $1800

Contract price as on February 1 - $1850

Contract Multiplier - $250

To Compute: Profit/loss on sale of given futures contract.

Introduction:

Future contract is a legal agreement that provides a buyer the right to buy or sell predetermined stock on a predetermined future date listed on stock market index.

Contract multiplier is the minimum number of index or stock that inflates the value of the future contract to add leverage to the trade.

Explanation of Solution

COMPUTATION OF PROFIT/LOSS ON SALE OF S&P 500 FUTURES CONTRACT

Current future contract value

As on January

  $\begin{array}{l}\text{1 = Current contract price × contract multiplier}\hfill \\ \text{ = \$1800 × \$250}\hfill \\ \text{ = \$450000}\hfill \end{array}$

If Future Contract value as on February 1 changes to $1850 then,

Future Contract Value

  $\begin{array}{l}\text{= Contract price as on February 1 × Contract multiplier}\hfill \\ \text{ = \$1850 × \$250}\hfill \\ \text{ = \$ 462500}\hfill \end{array}$

Since the value S&P 500 futures contract at which it is actually sold is $450000 and its value if sold on February 1 would have been $462500, therefore there is loss on sale of this futures contract.

Value of loss on sale = Future contract value as _ Current Future contract value

On February 1 As on January 1

  $\begin{array}{l}\hfill \\ \text{ = \$462500 - \$450000}\hfill \end{array}\text{ = \$12500}$

Conclusion

Thus, there is loss on sale of S&P 500 Futures contract of $12500