United Resources Ltd. (URL) is a mining company headquartered in Bozeman, Montana. While palladium has seen significant price increases over the past few years as it has been adopted as a critical component of catalytic converters used to reduce harmful gas emissions from automobiles, URL management is concerned about potential price decreases resulting from Covid-19 related automobile demand decreases. URL's CEO has asked you to examine the possibility of hedging the mine's palladium production. The mine is expected to produce 1,500 troy ounces during the next three months. Using the company's records and historical futures prices, you estimate that the basis in three months will be -$5.00 per troy ounce.

One contract on the futures exchange contains 100 troy ounces. Palladium is currently trading at $2,341.94 per troy ounce in the spot market. September futures contracts are currently trading at $2,370.50 per troy ounce.

a- What should URL management do in the futures market to fully hedge the company's expected palladium production over the next three months? Why?

b- When the CEO asks what price the mine should expect to receive for their palladium (inclusive of their hedging actions), what is answer?

Company management follows your advice and enters the futures market to hedge their upcoming palladium sale. When the company is ready to sell the palladium in three months, palladium is selling in the spot market at $2,350.00/ounce. Palladium futures are trading at $2,456.50/troy ounce.

c-What is the realized hedge price (price inclusive of futures gains or losses)?

d- In your next quarterly meeting with the CEO, the CEO complains bitterly that you don't understand how to hedge and that you've cost the company money. What do you say to the CEO?

e- What terms do we use to describe the hedge? Explain why these terms apply.