Sfm query - nov'11 exam question - what is happening ?

In the Nov'11 paper for SFM, Q 2(b)

UK co. selling to a german firm.

Order size = Euro 4 million.

Credit = 6 months

Spot : 1 GBP = Euro 1.1750/1.1770

6 m Further (Future) contract is currently trading at  Euro 1.1760 per GBP

6 m Future contract size = GBP 62500

Spot rate & 6 m future rate : Euro 1.1785 per GBP

Hedge through Futures contract.

 

Suggested Answer :

No. of future contracts = 54 { 4000000/(1.176*62500) }

Buy future at    1.1760

Sell future at     1.1785

 

Profit on future = [1.176-1.1785] * 62500 * 54 = 8438 Euro

I/F aft 6 m = 4000000 + 8438

GBP Receipts = 4008438/1.1785 = GBP 3,401,305

 

 

 

Question - Where did this profit come from ? 

Replies (1)

i would request you to go through rajesh makkar's notes derivatives chapter

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