Economics of Hedging with Futures

Great Lakes Distributors buys 100,000 bushels of soybean futures at $9.95 per bushel, to cover a commitment to deliver 100,000 bushels of soybeans to a customer in 60 days at a price of $10.25 per bushel. No margin deposit is required. Spot and futures prices for soybeans are equal and fluctuate between $9.50 and $10.40 per bushel. On the day of delivery to the customer, Great Lakes closes its futures position and buys soybeans in the spot market to fulfill its agreement with the customer.

Required

a. Calculate the cost per bushel to Great Lakes if the spot price at the time of purchase is $9.50.

$Answer

per bushel

Calculate the cost per bushel if the spot price is $10.40.

$Answer

per bushel

b. Prepare the entries Great Lakes makes to record the above events if the spot price is $10.20 per bushel on the day the futures contract is closed, Great Lakes buys the soybeans on the spot market, and delivers them to the customer. The futures position qualifies as a fair value hedge of the firm commitment to sell soybeans to the customer. Great Lakes records income effects of these transactions in cost of goods sold.

Description		Debit	Credit
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To close the futures position.
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To record the higher cost of fulfilling the obligation to the customer.
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To record purchase of the soybeans.
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To record sales revenue.
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To record purchase of the commodities.
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To categorize the hedge gain as a reduction of cost of goods sold.