Podcast
Questions and Answers
When deciding between a cash loan and a gold loan, what is the primary factor to consider when making the optimal choice?
When deciding between a cash loan and a gold loan, what is the primary factor to consider when making the optimal choice?
- The relative cost of repayment at the end of the loan term. (correct)
- The current spot price of gold compared to the historical average.
- The interest rate offered by international banks.
- The borrower's preference for dealing with cash versus physical gold.
In the gold loan scenario, if the one-year forward price of gold is expected to be significantly higher than the price used to calculate the initial loan, what would be the most likely consequence?
In the gold loan scenario, if the one-year forward price of gold is expected to be significantly higher than the price used to calculate the initial loan, what would be the most likely consequence?
- The overall cost of the gold loan would increase, potentially making it less attractive than a cash loan. (correct)
- The interest rate on the gold loan would automatically decrease to offset the higher gold price.
- The bank would require additional collateral to cover the increased risk.
- The borrower would benefit due to the increased value of gold, making the loan cheaper to repay.
What condition must be met for a gold loan to be a better choice than borrowing cash at 11% interest, given the details about international banks offering gold loans at 2% per annum?
What condition must be met for a gold loan to be a better choice than borrowing cash at 11% interest, given the details about international banks offering gold loans at 2% per annum?
- The borrower must have existing gold holdings to use as collateral.
- The price of gold must remain constant over the loan period.
- The gold interest rate must be higher than the cash interest rate.
- The gold interest rate should be sufficiently low to offset potential increases in the gold price. (correct)
If the interest rate on a gold loan is set such that the total cost is equivalent to a cash loan at 11%, what does this imply regarding the expected future price of gold?
If the interest rate on a gold loan is set such that the total cost is equivalent to a cash loan at 11%, what does this imply regarding the expected future price of gold?
In the context of stock index futures, what does it mean to 'lock in a future price'?
In the context of stock index futures, what does it mean to 'lock in a future price'?
How are stock index futures typically settled, and why is this method used?
How are stock index futures typically settled, and why is this method used?
What is the role of the multiplier in a stock index futures contract? (For example the number 200 in the text)
What is the role of the multiplier in a stock index futures contract? (For example the number 200 in the text)
In a stock index futures contract, if the index value at maturity is higher than the futures price at the time of purchase, how is the difference typically handled?
In a stock index futures contract, if the index value at maturity is higher than the futures price at the time of purchase, how is the difference typically handled?
Suppose you enter a 3-month futures contract to buy the S&P/TSE 60 Index at $800, with a multiplier of 200. If, at the contract's maturity, the index is at $850, what is your net gain (ignoring transaction costs)?
Suppose you enter a 3-month futures contract to buy the S&P/TSE 60 Index at $800, with a multiplier of 200. If, at the contract's maturity, the index is at $850, what is your net gain (ignoring transaction costs)?
Considering margin account adjustments in futures trading, how does an increase in the value of the underlying portfolio affect the margin account of the buyer?
Considering margin account adjustments in futures trading, how does an increase in the value of the underlying portfolio affect the margin account of the buyer?
Why might an investor use a stock index futures contract to buy the S&P/TSE 60 Index?
Why might an investor use a stock index futures contract to buy the S&P/TSE 60 Index?
How does the concept of 'locking in a future price' with stock index futures benefit an investor?
How does the concept of 'locking in a future price' with stock index futures benefit an investor?
In the context of stock index futures, if you believe the market will rise significantly over the next three months, what strategy should you employ?
In the context of stock index futures, if you believe the market will rise significantly over the next three months, what strategy should you employ?
An investor buys a S&P/TSE 60 Index futures contract. Three months later, the central bank unexpectedly raises interest rates substantially. How might this affect the value of the futures contract?
An investor buys a S&P/TSE 60 Index futures contract. Three months later, the central bank unexpectedly raises interest rates substantially. How might this affect the value of the futures contract?
What is the initial investment needed to begin trading a stock index future?
What is the initial investment needed to begin trading a stock index future?
Who are the typical participants in the stock index futures market?
Who are the typical participants in the stock index futures market?
Why are daily trading limits on futures contracts put in place?
Why are daily trading limits on futures contracts put in place?
Which of these is a reason for the futures market to exist?
Which of these is a reason for the futures market to exist?
Which of the following is an example of a hedger?
Which of the following is an example of a hedger?
In the futures market, when a contract moves unfavourably on the investors margin account, how is this handled?
In the futures market, when a contract moves unfavourably on the investors margin account, how is this handled?
Flashcards
Cash Loan Repayment
Cash Loan Repayment
Borrowing $550,000 at an 11% interest rate results in a year-end payment of $610,500.
Gold Loan Repayment
Gold Loan Repayment
The gold amount to be paid at the year-end to pay off the 1,000 ounces of the gold loan at 2% gold interest rate is equal to 1,020 ounces
Stock Index Futures
Stock Index Futures
Lock in a future price to buy/sell a portfolio of stocks.
Trading Stock Index Futures
Trading Stock Index Futures
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S&P/TSE 60 Contract
S&P/TSE 60 Contract
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Multiplier
Multiplier
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Cash Settlement
Cash Settlement
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Study Notes
- Some international banks offer gold loans at approximately 2% interest per annum.
- Consider borrowing $550,000 for one year, given gold is currently priced at $550 per ounce.
- One option is to borrow $550,000 at an 11% interest rate.
- a second option is to borrow $550,000 worth of gold at the current price, with a 2% annual gold interest rate.
- The one-year forward price of gold is $606.33 per ounce.
Cash Loan vs. Gold Loan Analysis
- The amount to pay off the cash loan at the year-end is $550,000 * (1 + 0.11) = $610,500.
- $550,000 will buy $550,000/$550 = 1,000 ounces of gold.
- The gold amount to be repaid at year-end for the gold loan at 2% interest is 1,000 * (1 + 0.02) = 1,020 ounces.
- The one-year forward purchase of 1,020 ounces of gold is 1,020 * $606.33 = $618,456.60.
- The cash loan is more economical since $610,500 < $618,456.60.
Determining Equivalent Desirability
- The goal is to find the gold interest rate, x, at which both loans are equally desirable.
- The forward purchase of 1,000 * (1 + x) ounces of gold will cost 1,000 * (1 + x) * $606.33.
- 1,000 * (1 + x) * $606.33 = $610,500 sets the two loans equal in cost.
- Solving for x gives x = 0.00687744 or 0.687744%.
- At a 0.687744% interest rate, both loans become equally desirable. The cash loan is preferable unless the gold interest rate falls below this percentage.
Stock Index Futures Contracts
- Lock in a future price to buy or sell a portfolio of stocks representing a stock market index, such as the S&P/TSE 60 and S&P 500.
- These trade on organized exchanges and are called stock index futures.
- Stock index futures represent specified amounts of the underlying asset. For example, the S&P/TSE 60 index futures contract commits the holder to buy or sell stocks worth 200 times the index value.
- If the current futures price of the index is $750, buying one contract commits one to buying a portfolio of stocks for 200 * $750 = $150,000.
- If the index is at $800 at contract maturity, the actual stock value is 200 * $800 = $160,000.
- Stock index futures are settled in cash, for physical delivery is not possible.
- The number 200 is the stock index futures contract multiplier.
Example Scenario
- A 3-month futures contract to buy the S&P/TSE 60 Index is entered.
- The 3-month futures price is $800, committing to buy a portfolio of stocks for 200 * $800 = $160,000.
- If the S&P/TSE 60 is at $850 three months later, the portfolio value rises to 200 * $850 = $170,000.
- This results in a $10,000 gain over the contract's 3-month duration.
- The margin account will be credited with this gain.
- In effect, enables buying the portfolio at $160,000 as per the futures contract.
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