Fui Fui, a head of investment manager holds a portfolio with a current value of RM20 million. The cash index currently stands at 970 points. Fui Fui fear that the market might be heading for a short-term volatility and wishes to enter the KLCI futures market for two months. She analyzing all the information before she decides.

Today, July 2020 Kuala Lumpur Composite Index (KLCI) is 1070 and the KLCI futures is 1100. While the dividend yield and the risk-free rate are 4% and 6.5%.

In August 2020, the KLCI futures price has shown as 1120, 1128 and 1210 for spot month, one month and two months. And both indices converged at last day of August 2020. Fui Fui confusing either she should enter as a hedger or arbitrageur in the market as the best strategy. She found currently the market is mismatch and she decides to get your advice.

Required:

1. As a CFO in the firm, what you would advise to Fui Fui based on the data given?

(4 marks)

(CLO2:PLO5:C5)

2. Why the market is mismatch? How you could proof to Fui Fui that your strategy that could benefited to the firm.

(9 marks)

(CLO2:PLO5:C6)

3. What is/are the difference(s) or the benefit(s) between hedging and arbitraging. Is/Are there any disadvantage(s) from both strategies? Briefly explain.

(7 marks)

(CLO2:PLO5:C5)