Financial Derivatives and Risk Management

Assignment Questions – December 2021

Answers to Numerical Questions

1. An investor buys five futures contracts on gold at MCX of India.  Each

contract is for 100g.  The price quotation is Rs.31,100 per 10 g.  The tick
size* (It is the minimum change recognized in price quotation) is Re.1.
Initial margin is set at 4%., while the minimum margin is 90% of the initial
margin, find out the following:
a. What is the minimum change in value of the contract?
b. What is the amount of initial margin the investor must deposit with the
exchange?
c. At what price level would the investor get a margin call? If the investor
sold the contract, what price level would trigger a margin call?
d. For the contract specified in Example above, find out the gain or loss daily for short
and long positions in five contracts of gold if the clearing prices for the next 10 days
are as given:

Day 1 2 3 4 5
Price
31040 30610 30820 30440 30880
(Rs.)
Day 6 7 8 9 10
Price
30680 31200 31260 31340 31740
(Rs.)

Indicate the position of the margin account and margin calls, if any, daily when the
contracts are marked to market. If investors square off their positions at a price of
Rs.15,870 on the 10th day, find out the gains and losses of the long and short
positions in futures.  Confirm the same from the margin account cash flows.

a.  The minimum change in the price quotation is Rs.1 per 10 g.  The contract size is
100 g. Therefore the minimum change in value of each contract will be Rs.10 (1 x
100/10)
b. Initial margin = Value of contract x margin% x no.of contracts = 100/10 x 31,100
x 4% x 5 = Rs.62,200
c. The minimum margin is set at 90% of the initial margin.  Therefore, till the loss
reaches Rs.6,220 (10%) which Rs.1244 per contract, the investor would not get
margin call.  When the price falls below 124.40 per 10 g , the margin would fall
below the minimum required.
 d. For initial short position, the price would erode the margin.  Price rise by more
than Rs.124.40 to Rs.31,124.4 would trigger a margin call. (5 marks)

The investors have opened their positions at a price of Rs.31,100 by depositing a margin
of Rs.62,200, calculated at 4% of the initial outlay. The minimum margin requirement at
90% works out to Rs.55,980 (0.90 x 62,200).  The margin accounts of investors would be
credited with any profit and debited with any loss.  For long and short positions, the
amount of profit and loss would be equal with a changed sign.  On the basis of daily
clearing prices, the daily profit and loss position, the margin account position, and margin
call would be as follows:

Day Price Profit /Loss for the Margin Account Margin Call (Rs.)
(Rs.) day(Rs.) (Rs.)
    Long Short Long Short Long Short
0 31100     62200      
1 31040 -3000 3000 59200 65200    
2 30610 -21500 21500 37700 86700 24500  
3 30820 10500 -10500 72700 76200    
4 30440 -19000 19000 53700 95200 8500  
5 30880 22000 -22000 84200 73200    
6 30680 -10000 10000 74200 83200    
7 31200 26000 -26000 100200 57200    
8 31260 3000 -3000 103200 54200   8000
9 31340 4000 -4000 107200 58200    
10 31740 20000 -20000 127200 38200   24000
 Closing position of margin account 127200 62200 33000 32000

Profit/loss= Final margin position – initial margin position – margin call paid

for long position profit = 1,27,200-62,200-33,000=Rs.32,000

for short position loss = Rs.62,200-Rs.62,200-Rs.32,000=Rs.-32,000

2. The BSE 30 Sensex is at 31,200 points on April 1. There is a June future on BSE 30
Sensex with 88 days to maturity. The risk-free rate is 6%, and the BSE 30 Sensex has a
dividend yield of 3%. The futures are trading at 31,600 points on April 1. Is there an
arbitrage opportunity? If so, how can you arbitrage and what would be your arbitrage
profit?
 Theoretical futures price of sensex = s . e(r-d)r
= 31,200 x e(0.06-0,03)(88/365)
= 31,426
Actual market price of futures=31,600

Since the actual market price of futures is greater than the theoretical price, the market
price is overvalued. Take a short position in futures and a long position in the index to
take advantage of arbitrage opportunity.

3. The current exchange rate between the Indian rupee and the euro is EUR 1 = INR
61.3456. The current interest rates on the euro and the Indian rupee are 5% and 7%,
respectively. You believe that the interest rate in India is going to increase to 8% in 15
days and the spot rate after 15 days would be EUR 1 = INR 61.3708. There is a EUR–
INR futures contract available with maturity in 58 days from today. Explain how you can
use this information to make speculative profits. Assume that futures will be priced using
the theoretical relationship. What will be your speculative profits for 100 futures
contracts?

Spot:

EUR 1=INR 61.3456 i EUR =5 %i I =7 % iI= 8% and EUR 1 = INR 61.3708 after 15 days
EUR - INR contract available with a 58-day maturity

[
Current futures price=61.3456 (7 %−5 % ) ( 365 ) ]
58
EUR 1=61.5409

[
Futures price after 15 days=61.3708 ( 8 %−5 % ) (
365 )]
43
EUR 1=INR 61.5881

Since it is expected that the EUR will appreciate after 15 days, one will buy futures today and
close the position in 15 days. The gain per Euro will be (61.5881 – 61.5909) = INR 0.0472

Since each contract is for 1000 Euros, and you are speculating with 100 contracts, Speculative
gain = 100*1000*0.0472 = INR 4,720

4. On September 1, the Asian Paints shares are selling at INR 2,800. The Asian Paints
futures have a contract size of 200. The September futures expiring on September 28 are
priced at INR 2,892, and the October futures expiring on October 26 are priced at
INR3,056. The initial margin requirement is 5% of the contract value. On September 28,
the shares of Asian Paints are selling at INR 2,916.
i) If you buy one September contract, what is the value of the contract?
ii) How much money do you need to post as the margin?
 iii) What would be the amount of cash settlement for a September contract?

Share price on September 1 = 2800September futures price = 2892

Futures expiry = September 28Initial margin = 5% contract valueContract size = 200

Part a.

Value of contract = contract size * futures price=200 * 2892 = 578,400

Part b. Margin amount = margin percent * contract value=5% * 578,400

=28,920
Part c. September 28 share price = 2,916September 28 futures price = 2,892
Gain from futures = (2916 – 2892) * 200
=4,800 Cash settlement = you would receive INR 4,800