Question 2. It is January 31, 2019. A local brewery is a large producer of craft beer whose main ingredient is barley. The demand for craft beer is seasonal with the largest demand occurring mid-June through the end of August. Production schedules require the acquisition of 80 metric tons (MT) of barley in late May to meet the summer season demand. The management of the brewery is concerned about the possibility that a rise in the price of barley between now and the end of May could hurt profit margin. Barley must be acquired for $350 per metric ton (MT) or less to ensure profitability. On February 1, 2021, the ICE June 2021 Barley futures contract (20 MT per contract) is selling for $351.80 per MT. The standard deviation of the change in the spot price of barley is 0.80. The standard deviation of the change in the futures price of barley is 0.56. The correlation between the change in futures price and the change in spot price is 0.60. One contract of barley is 20 metric tons on ICE.

1. Calculate the risk-minimization hedge ratio, h, and determine how many contracts the brewery must trade? If the standard deviation of the change in the futures price of barley doubles, what would happen to the number of contracts? Does it increase or decrease? Explain the intuition behind your last result.