18 Questions
In cross hedging, why is it important to choose a futures contract that is highly correlated with the asset being hedged?
To reduce the risk of imperfect correlation affecting the hedge effectiveness
What does the hedge ratio help in estimating?
The quantity of futures contracts needed for an effective hedge
Why is locking in a specific exchange rate challenging in a futures contract?
Because of the requirement for a non-zero basis
What is the purpose of using a delivery month close to, but after, the life of a hedge?
To effectively manage price risk
What is the most likely reason for using heating oil futures to hedge jet fuel purchases by an airline?
High correlation between heating oil prices and jet fuel prices
Why is it important for the futures price to be highly correlated with the asset price when cross hedging?
To reduce basis risk and improve hedging effectiveness
What does basis risk refer to in the context of hedging?
The risk arising from not finding a perfect hedge due to various uncertainties.
Why might a hedger require the future contract to be closed out before the delivery month?
Because of uncertainty about the exact date of buying or selling the asset.
How does minimizing basis risk help in hedging strategies?
Improves the correlation between spot position and futures contract.
What is the basis typically defined as in hedging?
The difference between the spot price and the futures price.
How does selecting a futures contract with a closer maturity to the hedging horizon help in reducing basis risk?
It helps align the maturity of the futures contract with the hedging duration.
In what situation might a hedger face challenges in finding a perfect hedge?
When there are uncertainties about future asset delivery dates and types of assets.
What is the value of the portfolio mentioned in the text?
$5 million
How many futures contracts on the S&P 500 are needed to hedge the portfolio in the example provided?
30 contracts
Why might someone want to hedge equity returns according to the text?
To ensure a risk-free return plus excess return over the market
In the context of hedging, what does beta measure?
The sensitivity of the portfolio to market movements
Based on the text, which futures contract related to the S&P 500 index is considered in the example?
$250 times the index
What is the hedge ratio mentioned in the text for the portfolio with a beta of 1.5?
$30 contracts
Test your knowledge on calculating gains on futures contracts, converting prices, and selecting the appropriate delivery month for a hedge. Practice understanding why a specific exchange rate could not be locked in due to certain conditions.
Make Your Own Quizzes and Flashcards
Convert your notes into interactive study material.
Get started for free
