Chapter 17, Problem 24C

Summary Introduction

(A)

Adequate Information:

Indexed equity portfolio value - $9 million

Indexed contract price - $1800

Contract multiplier - $250

To Compute:Number of contracts to fully utilize indexed equity portfolio over six-months period.

Introduction:

The number of contracts to fully utilize indexed equity portfolio is the total value of portfolio/ indexed future contract value where indexed future contract value is al agreement the value 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 value to add leverage to the trade.

Summary Introduction

(B)

Adequate Information:

Current price/spot price - $1800

Dividend yield rate - 1% semi annual

Risk-free interest rate - 2% for 6 months

Time period to maturity - 6 months

To calculate:

The parity value of future price.

Introduction:

The Spot-Futures parity theory for future price of the contract states that if an asset purchased today and held until the maturity of the futures contract, the value of the future contract is equal to the current spot price adjusted for the variables such as interest rate, dividends, etc. In simple mathematical equation:

Future price=Spot price X (1 + Risk free interest rate - dividend yield)^ time period in years

Summary Introduction

(C)

To show:

If the contract is fairly priced, the returns on total risk free proceeds are equal to the T-bill rate.

Introduction:

Fair value is theoretical value of future stock index contract on the basis of current index value, interest rates, dividends and days to maturity of the futures contract.