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1. Make an assumption that a security that you own is currently worth K800 and...

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1. Make an assumption that a security that you own is currently worth K800 and you plan to sell it in two months' time. This is to create hedge against a possible decline in price during the next two months. A forward contract is negotiated to sell the security in two months at a risk-free rate of return of 4%. a. What's the forward price on this contract? (2 Marks) b. What if the dealer proposes to go into a forward contract at K698? How would you earn an arbitrage profit. (2 Marks) c. If a after one month, the security sells for k690. What would be the gain or loss to the position you took. (2 Marks) 2. An asset whose spot price is K100 is put into consideration. There are plans by investor to sell it in one year and the investor is worried that the price may have fallen at the point of time. To hedge that risk, a forward contract is entered into by the investor to sell the asset in a years' time. Assume that the risk-free rate is 10%. a. What is the appropriate price at which this investor can enter into the contract to sell the asset in one years' time? (2 Marks) b. After three months into the contract, the price of the asset is K90. What is the gain or loss realized in the forward contract? (2 Marks)

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