Q1. On February 15 2022 Oregon Cereals has just negotiated a contract to buy 300,000 bushels of corn. The price in the contract is the spot price of corn in July 2022.

You can use the following information

• Spot price of corn = 645 cents on February 15^th
• July 22 futures price on CME = 642 cents
• Each CME corn futures contract is for 5,000 bushels.
• Assume the expiry date for July 2022 is the same as the date of the sales contract.
• Assume the grade of corn in the spot contract is the same as that underlying the futures contract.

1. Explain clearly what hedging strategy Oregon Cereals will employ. Using your own numerical scenarios, illustrate how the company can set up a perfect hedge today.
2. Discuss any two (2) reasons why such a perfect hedge does not work in practice.
3. Define the basis. In the example above, explain whether Oregon Cereals would benefit from a stronger or weaker basis.