3. Derivatives Contracts (12 marks) 1) Bitcoin (BTC) is currently quoted at USD $40000 per unit. The riskless interest rate is 1.5% p.a. annually compounded. BTC can be purchased/sold in fractions (i.e. you can purchase 0.1 BTC in the spot market). a) Ed plans to sell his current investment portfolio in a years time, after it has rebounded, and invest all the proceeds in Bitcoins. However, he is afraid Bitcoin will significantly rise in price over that period and would like to find a way to lock in its price.

Which position (long or short) should he take in the futures market to hedge the price risk of BTC? (1 mark)

b) Micro Bitcoin futures traded on the CME have a contract size of 0.1 BTC. What should be the arbitrage-free futures price for the delivery of 0.1 BTC in a years time given the going price for 1BTC and the risk-free rate?

(1 mark) c) If Ed observes a 1-year futures price of Micro Bitcoin futures $3,992.00, explain how he can set up an arbitrage strategy to make a riskless p