Question
The tasks is: Identify the problem in the scenario, quantify the financial exposure Conduct a fundamental and technical analysis of the asset class Recommend the
Thetasks is:
- Identify the problem in the scenario, quantify the financial exposure
- Conduct a fundamental and technical analysis of the asset class
- Recommend the position or positions that can be taken in the derivativemarket,explain the rationale and quantify the expected reduction in the exposure.
- Reassess your position after threeweeks withthe movements of the derivative market and quantify the exposure, recommend changes if applicable.
- Provide a cash flow summary and conclude the hedging exercise carried out.
Scenario
You are a fund manager with a portfolio worth $50million that has a beta of 0.87 against the S&P500. Your employer is concern about the performance of the market over the next two months and plans to use 3-months futures contract on the S&P500 to hedge the risk.
S&P INDEX: 2989.69
S&P FUTURE INDEX: 2991.40
CONTRACT SIZE: 250
HOLDING TIME: 2 MONTHS
Risk-free rate: 1.59%
Risk-free rate (2 months): 0.265%
Dividend yield: 3%
Dividend yield (2 months): 0.5%
Number of Contracts: 58
By observing the current 3 months US risk free interest rate, contract size of the 3-months futures index (refer to the contract size at the CME website), design a position to hedge the exposure of the market for over the next two month (Assume the dividend yield on the index is 3% per annum). Re-assess the exposure after 3 weeks. Establish the outcome and cash flow position.
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