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Heating oil futures contracts are traded on the New York Mercantile Exchange (NYM), a division of the CME Group. The standard contract size for heating

Heating oil futures contracts are traded on the New York Mercantile Exchange (NYM), a division of the CME Group. The standard contract size for heating oil futures is 42,000 gallons per contract. You have an inventory of 1.68 million gallons, and you want to construct a full hedge. Suppose the average acquisition price of your 1.68 million gallons of heating oil is $1.75 per gallon and that todays futures price for delivery during your heating season is $2.05. In the past, market conditions in your distribution area were such that you could sell your heating oil to your customers at a price 25 cents higher than the prevailing futures price. To help finance your inventory purchases, you borrowed money. During the heating season, you have to make an interest payment of $600,000. Calculate the pretax profit for your enterprise in the cases shown in the spreadsheet without a hedge in place and with a hedge in place. (Leave no cells blank - be certain to enter "0" wherever required. A negative value should be indicated by a minus sign. Going through your solution it should be clear that how you come up with the value in each cell)

Base Case: No Change in Heating Oil Price

Heating Oil Price Decrease

Heating Oil Price Increase

Heating oil inventory (gal.)

1,680,000

1,680,000

1,680,000

Selling price, per gallon

$2.30

$1.90

$2.70

Avg. purchase price, per gallon

$1.75

$1.75

$1.75

Futures price

$2.05

$1.65

$2.45

Without a Hedge

Revenue

Cost of inventory sold

Interest expense

Pretax profit

Pretax profit, per gallon

With Short Hedge (short futures at $2.05)

Contracts needed

Revenue

Cost of inventory sold

Interest expense

Futures gain (loss)

Pretax profit

Pretax profit, per gallon

Futures gain (loss), per gallon

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