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On April 6, 2014 a fund manager holds a $28 million stock portfolio that matches the S&P 500 stock index. The manager expects stock prices

  1. On April 6, 2014 a fund manager holds a $28 million stock portfolio that matches the S&P 500 stock index. The manager expects stock prices to be lower by July 2014 when the portfolio will be sold. Assume on April 6, 2014, the S&P 500 spot price is 1400 and the July 2014 futures price is 1425. The futures contract size is 500 units of the S&P 500.

    1. Design a strategy to hedge the risk of a declining stock market. Indicate whether you would be long or short futures and how many contracts.
    2. Now assume that at the delivery date in July 2014 the spot and July futures price is at 1300. Determine the gain or loss in both the spot and futures market and show the effective selling price of the portfolio.

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