Prob 6.1

1. Futures Problem (5 points) (Please assist on below)

Suppose that heating degree day(HDD) weather futures for February 2019 are trading for F = 1015, and the trading units are $20 times the heating degree day (HDD index), and based on a benchmark of 65 degrees. There are 28 days in February 2019.

a. Based on the futures price of 1015, what is the expected average temperature in February 2019?

b. For each degree above or below average, calculate and report the profit/loss on each contract.

Suppose that for each degree below average temperature in February 2019, University heating costs would increase by $14,500, and for each degree above average temperature, University heating cost would decrease by $14,500.

c. Explain in a complete, detailed essay how UM-Flint could use HDD weather futures contracts to hedge its weather risk, including the number of contracts it would take and the exact position (long or short) it would take. Show its position graphically using a fully labeled (with title) futures payoff diagram (show only one side of the contract, not both sides)

d. If the average temperature in February 2019 turns out to be 34 degrees, calculate the settlement price of the HDD contract (index value), the profit/loss per contract for University, and the total profit/loss on the futures contracts for University, and the energy cost savings for University

e. If the average temperature in February 2019 turns out to be 27.0 degrees, calculate the settlement price of the HDD contract (index value), the profit/loss per contract for University, and the total profit/loss on the futures contracts for University, and the additional energy costs for the University.