1
$\begingroup$

There is this question 6.16 in Hull, 8e:

Suppose that it is February 20 and a treasurer realizes that on July 17 the company will have to issue \$5 million of commercial paper with a maturity of 180 days. If the paper were issued today, the company would realize \$4,820,000. (In other words, the company would receive \$4,820,000 for its paper and have to redeem it at $5,000,000 in 180 days’ time.) The September Eurodollar futures price is quoted as 92.00. How should the treasurer hedge the company’s exposure?

The solution says 9.84 contracts should be shorted to achieve the intended outcome and arrives at this number as follows:

4,820,000*2/980,0000

I don't get where this 980,000 comes from?

$\endgroup$
3
$\begingroup$

The future is at 92, so the interest rate is 8% per year (!the good old days!) or 2% a quarter. Two percent interest on one million is 20,000. So one future covers the interest on 980,000 initial amount and allows you to repay 1,000,000 at maturity 3 months later.

You initially borrow 4,820,000 so you need 4,820,000/980,000 futures (for a three month loan). But it is a 6 month loan, so you need twice as much to pay the interest, i.e. 4,820,000*2/980,000

$\endgroup$

Your Answer

By clicking “Post Your Answer”, you agree to our terms of service, privacy policy and cookie policy

Not the answer you're looking for? Browse other questions tagged or ask your own question.