Instructions: Solve the following problem. To receive credit, readers must be able to follow your logic...

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Finance

Instructions: Solve the following problem. To receivecredit, readers must be able to follow your logic and you mustexplain each step in detail. Please label each step, identify eachequation and variable, and explain your answer.
The management of a mutual fund plans to sell a basket of stocksin three months. The stocks are similar to the S&P 500. Itseeks protection against a decrease in the price of the stocks. Thecurrent price of the S&P 500 Index is $2352.40. The futuresprice of index is $2397.80. The number of shares to be hedged is1,000, and the number of shares per futures contract is 100.Therefore, 10 contracts will be hedged.
1.   Define the following:
Hedge
Speculation
Futures contract
2.   Describe in detail thehedge created by the mutual fund. That is, what action will themutual fund take?
3.   Describe the outcome of this hedgein detail if the price of the index is $2304.20per share and the price of the futures contract is $2349.60 pershare when the hedge is lifted.
4.   Describe the outcome of this hedgein detail if the price of the index is $2392.50per share and the price of the futures contract is $2437.90 pershare when the hedge is lifted. Base your answer on the originalinformation given, not your answer in 3 above.

Answer & Explanation Solved by verified expert

4.0 Ratings (806 Votes)

1 Hedge A hedge involves taking a position opposite to the hedgers position in the underlying asset so as to successfully protect himselfherself against a fluctuation in the underlying assets price The underlying asset can be a commodity eg gold crude oil cotton etc or an intangible financial instruments such as the SP 500 index in this case Speculation A speculation is said to be executed when a person takes a See Answer

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Instructions: Solve the following problem. To receivecredit, readers must be able to follow your logic and you mustexplain each step in detail. Please label each step, identify eachequation and variable, and explain your answer.The management of a mutual fund plans to sell a basket of stocksin three months. The stocks are similar to the S&P 500. Itseeks protection against a decrease in the price of the stocks. Thecurrent price of the S&P 500 Index is $2352.40. The futuresprice of index is $2397.80. The number of shares to be hedged is1,000, and the number of shares per futures contract is 100.Therefore, 10 contracts will be hedged.1. Define the following:HedgeSpeculationFutures contract2. Describe in detail thehedge created by the mutual fund. That is, what action will themutual fund take?3. Describe the outcome of this hedgein detail if the price of the index is $2304.20per share and the price of the futures contract is $2349.60 pershare when the hedge is lifted.4. Describe the outcome of this hedgein detail if the price of the index is $2392.50per share and the price of the futures contract is $2437.90 pershare when the hedge is lifted. Base your answer on the originalinformation given, not your answer in 3 above.