Question 2 (10 points)

CME options on grain and oilseed futures work as follows: the buyer of a March corn call (say), by exercising the option, gets a long position in a March corn futures with a price equal to the strike price. The buyer of a March put, by exercising, gets a short position in a March futures.

1. In May 2017, suppose that December 2017 corn futures were trading at $4.50/bushel. Farmer Jones went long a Dec 2017 $4.00-strike corn futures put (paying 45 cents for this downside protection). He harvested his corn the same day that the December corn options expired. At that time, the Dec. 2017 corn futures price had fallen to $3.50/bushel and the basis was 20 under. What did he net for his corn? Ignore interest rates, if any (i.e., assume the risk-free rate was 0). Please explain briefly.

A. $4.00

B. $3.80

C. $3.35

D. $3.30

E. $2.85

F. None of the above

2. Go back to the previous question (Q2.1). What would Mr. Jones have netted for his corn, if futures prices had risen to $7.00/bushel and the basis had been 20 under? Please explain briefly.

A. The same price as in Q2.1

B. $6.35

C. $6.80

D. $6.35

E. None of the above

3. When a farmer uses a fence strategy at time t (comprising call and put options on futures that expire at time T), the floor price for her crop at time T will be

A.The strike price of the put minus the net premium paid

B.The strike price of the put minus the net premium paid minus the basis at time T

C.The strike price of the put minus the net premium paid minus the basis at time t

D.The strike price of the call plus the net premium paid minus the basis at time T

E.None of the above

Question 3 (2.5 points)

In agricultural futures and options market, a "strengthening basis" for a grain (e.g., corn, wheat) or an oilseed (e.g., soybeans) refers to:

(i)an increase in the commodity's cash price relative to its futures price

(ii)an increase in the futures price relative to the cash price

(iii)an increase in the cash price above the nearest-dated option's strike price

(iv)an increase in the futures price above the matching-maturity option's strike price

(v)a small drop in the cash price at the same time as a big drop in the futures price

(vi)a small drop in the cash price at the same time as a small increase in the futures price

(vii)a simultaneous increase, of the same magnitude, in both cash and futures prices.

(viii)a simultaneous decrease, of the same magnitude, in both cash and futures prices.

(ix)none of the above.

Pick all the answers that you think correct. If you choose (ix), please explain.

Question 4 (5 points)

1. March soybean futures closed at $9.97/bushel on Dec. 6^th, 2017. That same day, the CME's March-2018, 950-strike call (written on soybean futures) was

A.out of the money

B.at the money

C.in the money

D.Can't tell without more information

If you answer D, what additional information would you need? Why?

2. A CME trader who wants to profit from falling corn futures prices, but is only willing to accept limited downside risk in case corn prices go up, would be well advised to

A.sell a call on corn futures

B.buy a put on corn futures

C.buy a put on the S&P 500 equity index

D.A and C

E.none of the above

3. Exercising a put option is also referred to as

A.going long a call

B.writing a put

C.selling a put

D.expiring a put

E.striking a put

F.hedging a call

4. If March 2018 soybean futures are at $10.63/bushel, which of the following four instruments has the greatest moneyness?

A.a March 2018 12.20 soybean futures put

B.a March 2018 9.20 soybean futures call

C.a March 2018 10.10 soybean futures put

D.a March 2018 10.10 soybean futures call

E.can't tell without knowing the interest rate

Question 5 (7.5 points)

We are in mid-December 2019, and the current price of March 2020 corn futures is $3.80/bu. Farmer Jones still has about 50,000 bushels of corn left to harvest (the winter started really badly for farmers), and he wants to market it in March. He decides to hedge using the following strategy:

(i)buy a March 2020 put on (March) corn futures with an exercise price of $3.50 per bushel.

(ii)simultaneously sell a March 2020 call on (March) corn futures with an exercise price of

$4.10 per bushel. Both options are European.

(a)(3.5 points) Graph Farmer Jone's expected payoff at option expiration as a function of the March corn futures price at that time. (If you prefer, you may establish a table with the payoffs instead of a graph.)

(b)(1.5 point) What is this strategy?

(c)(2.5 points) Is Farmer Jones' strategy really a hedge, or is he speculating? Please explain.