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Chapter 13

Question 13

Futures contracts

It is currently February and a US exporter expects to receive £500,000 in June.

Current spot rate $1.65 = £1 (would lead to a $ receipt of £500,000 × 1.65 =
$825,000)

Quote for June sterling futures $1.65
Standard size of futures contract £62,500.

Spot rate in June $1.70 = £1, futures price in June $1.70

How the futures contracts work:

Take on enough futures contracts to cover the transaction: £500,000/£62,500 =
8 contracts.

The £ received in June will be sold for $. Buying £ futures contracts at the
same time will offset this transaction and negate the effect of any movement in
exchange rates between now and then.
In order to buy £ futures in June, they should be sold now at the current price of
$1.65.

Now: sell 8 June futures contracts at $1.65

In June: receive the £500,000 from the customer and exchange it for $ at the
spot rate:

£500,000 × $1.70 = $850,000

Buy back the June futures contracts at the June price of $1.70.

Overall position:

The $ received have risen in value between February and June from $825,000
to $850,000 – a rise of $25,000
The 8 futures contracts were sold at $1.65 and bought back at $1.70, a loss of
$0.05 cents per £ on each contract.

Total futures loss = $0.05 × £62,500 × 8 = $25,000

The gain on the underlying transaction and the loss on the futures contract
offset each other – the exchange rate has effectively been fixed at $1.65 = £1

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