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QUESTION
Imagine it is 10 July 2020. A UK company has a US$6.65m invoice to pay on 26 August 2020. They are concerned that exchange rate fluctuations could increase the £ cost and, hence, seek to effectively fix the £ cost using exchange traded futures. The current spot rate is $/£1.71110.
£/$ futures, where the contract size is denominated in £, are available on the CME Europe exchange:
September expiry – 1.71035 December expiry – 1.70865
The contract size is £100,000 and the futures are quoted in US$ per £1. The contract specification for the futures states that the tick size is 0.00001$ and that the tick value is $1.
Outcome on 26 August:
On 26 August the following was true: Spot rate – $/£ 1.65770
September futures price – $/£1.65750
In the scenario above the CME contract specification for the £/$ futures states that an initial margin of $1,375 per contract is required. The maintenance margin is $1,250 per contract. The settlement prices for this future are:
Settlement price on 11 July (Friday) 1.70925
Settlement price on 14 July (Monday) 1.70805
Settlement price on 15 July (Tuesday) 1.71350
Required:
a) Determine the net cash flow using the futures hedge ignoring the requirements of the initial margin and the maintenance margin.
b) Determine the daily balance in the margin account. .
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