Lecture 4 - Forward and future prices Flashcards
Explain what happens when an investor shorts a certain share.
The investor’s broker borrows the shares from another client’s account and sells them in the usual way. To close out the position, the investor must purchase the shares. The broker then replaces them in the account of the client from whom they were borrowed. The party with the short position must remit to the broker dividends and other income paid on the shares. The broker transfers these funds to the account of the client from whom the shares were borrowed.
Measures the extent to which there are benefits obtained from ownership of the physical asset that are not obtained by owners of long futures contracts.
Convenience yeild
Interest cost plus storage cost less the income earned
Cost of carry
Relationship between futures price, spot price, convenience yield, and cost of carry
F0=S0e^(c-y)T
It is sometimes argued that a forward exchange rate is an unbiased predictor of future exchange
rates. Under what circumstances is this so?
The forward exchange rate is an unbiased predictor of the future exchange rate when the exchange rate has no systematic risk. To have no systematic risk the exchange rate must be uncorrelated with the return on the market.
An asset held for investment by a significant number of people or companies.
Investment asset
An asset that is nearly always held to be consumed either directly or in some sort of manufacturing process.
Consumption asset
Why is the distinction between investment and consumption assets important in the determination of forward and futures prices?
The forward/futures price can be determined from the spot price of an investment asset. In the case of the consumption asset, all that can be determined is an upper bound for the forward/futures price.
Cost of carry for a non-dividend-paying stock
The risk-free rate
Cost of carry for a stock index
The excess of the risk-free rate over the dividend yield
Cost of carry for a commodity with storage costs
The risk-free rate plus the storage cost
Cost of carry for a foreign currency
The excess of the domestic risk-free rate over the foreign risk-free rate.
