01 Jul Question Description Each exercise has several short calculations.
Question Description
Each exercise has several short calculations.
Please write every step so that I can understand.
Tags: Financial Management Derivatives Financial Markets Financial Markets and Institutions Interest rates
metad712_exercise5.docx
metad712_exercise6.docx
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Financial Markets & Institutions Derivatives Homework Exercise Homework Exercise 5 1) As part of its cash management program, Tylee Corp., believing that interest rates will rise, sells 5 T-bill futures contracts ($1,000,000 standard contract size), at a price of 99.20 (reflecting an interest rate of 0.8%). a. Over the holding period interest rates do, in fact, rise to 1.10%. How much will Tylee gain or lose on the transaction (ignore transaction costs). b. Alternatively, let’s say that Tylee has guessed wrong and instead interest rates decrease to 0.65%. How much will Tylee gain or lose on the transaction (ignore transaction costs). 2) The stock of Alpha Corp. currently sells for $54 per share. Apple Hedge Fund believes that Alpha’s stock could increase substantially in price over the next 3 months. A Call option with an exercise (strike) price of $55 which matures in 3 months has a current price of $3 per share. Assume that the option would not be exercised until maturity. The table below presents possible share prices at the maturity of the option. Under each possible final price for the stock, determine: a) Would the Call option be exercised? b) What would be the net gain or loss from the option (including the initial price of the option)? c) What would be the percentage gain or loss from the option relative to the initial investment in the option? Stock Price at Maturity 52 54 56 58 60 62 a) Would Option Be Exercised? (Yes/No) b) Net Gain / Loss from Transaction (per share) c) % Gain or Loss 3) The standard contract for the S&P 500 Index Option is $100 times the index. The current level of the index is 1975. A portfolio manager is concerned that the stock market may decline. Currently the price of 1 month call options with a strike price of 1950 are priced at $26.14 (times 100 for the contract) and put options are priced at $7.40 (times 100 for the contract) He has 3 strategies he’s considering (assume 1 contract size for all transactions): a. Sell Call Options b. Buy Put Options c. Do Nothing What will be the result of his actions if the index at the end of the month is at the levels indicated in the table (on a per contract basis)? Value of S&P 500 Index at Maturity Total Dollar Gain or Loss Under the Following Strategy: If the S&P 500 Index is at following level at the expiry date: Sell Call Option Buy Put Option Do Nothing 1850 1875 1900 1925 1950 1975 2000 4) Cleveland Insurance Co. has just negotiated a 3 year plain vanilla interest rate swap in which it will exchange fixed payments of 8% for floating payments of LIBOR + 1 percent. The notional principal is $50 million. If LIBOR is 7%, 9%, and 10% in each of the next three years respectively, what will the net payments received (or paid) by Cleveland? a. Determine the net dollar amount to be received (or paid) by Cleveland each year. Year Year LIBOR Floating Rate Received Fixed Rate Paid Swap Differential Net Dollar Amount Received (Paid) by Cleveland (Based on Notional Value of $50 Mil.) 1 7% 2 9% 3 10% b. Determine the dollar amount to be received (or paid) by the counterparty on this interest rate swap each year based on the assumed forecasts of LIBOR. Financial Markets & Institutions Interest Rate & FX Homework Exercise Homework Exercise 6 1) If the current interest rate on 1 year T-notes is 0.194% and the projected inflation rate is 1.6%, what is the anticipated Real Interest Rate? 2) If the current interest rate on the 2 year Treasury Note is 0.28% and the rate on the 3 year T-Note is 0.36%, what is the implied 1 year rate going to be two years from now? 3) Currently 5 year T-notes provide a yield to maturity of 1.74% per year. At the same time, TIPS (Treasury Inflation Protected Securities) with a 5 year maturity provide a yield (before inflation) of -0.50% per year. What is the implied annual inflation rate over the next 5 years? 4) You will be receiving payment of NP 1 million from a client in Mexico one year from now. The current spot rate for the Peso is 1 NP = US$ 0.077. The current price of Peso futures is 1NP = US$ 0.075. Your expectation of the peso spot rate one year from now is: Possible Outcome for Future Spot Rate Probability 0.08 5% 0.075 60% .07 35% The question is whether you should buy the Peso forward, to lock in the existing rate, or wait until the funds are received and then exchange them for dollars. a) What would be your gain or loss from purchasing Pesos in the forward market under each of the 3 scenarios? Future Spot Rate 0.08 0.075 .07 Gain in US$ From Using Forwards Per Peso b) Given your estimated probabilities for each scenario, what would be your average gain or loss? 5. Assume the following information: British pound spot rate = $1.71 British pound one-year forward rate = $1.69 British one-year interest rate = 8% U.S. one-year interest rate = 5% a. Explain how U.S. investors could use covered interest arbitrage to lock in a higher yield than 5%. What would be their net gain (per Dollar) from doing so? b. If a large number of investors undertook this transaction, explain how the spot and forward rates of the pound would change as covered interest arbitrage occurs. …
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