Ch. 21 isk Management o 2002. Prentice Hall. Inc
© 2002, Prentice Hall, Inc. Ch. 21: Risk Management
Innovations in Risk Management Futures contract: a contract to buy or sell a stated commodity or financial claim at a specified price at some specified future time
Innovations in Risk Management • Futures contract: a contract to buy or sell a stated commodity or financial claim at a specified price at some specified future time
Futures: a simple example Suppose a farmer plans to harvest 10.000 bushels of corn in 6 months The current price is $2.50 per bushel. The farmer sells a futures contract which will allow him to sell corn at 2.50 per bushel in 6 months If the price of corn falls to $2. 00 per bushel, the farmer loses $5, 000 (S050x 10,000 bushels )on his corn, but gains $5,000 on his futures contract
Futures: a simple example • Suppose a farmer plans to harvest 10,000 bushels of corn in 6 months. The current price is $2.50 per bushel. The farmer sells a futures contract, which will allow him to sell corn at 2.50 per bushel in 6 months. • If the price of corn falls to $2.00 per bushel, the farmer loses $5,000 ($0.50 x 10,000 bushels) on his corn, but gains $5,000 on his futures contract
Futures: a simple example If the price of corn rises to $3.00 per bushel, the farmer gets s5,000 more for his corn, but loses s5.000 on the futures contract The farmer has effectively locked in a price of $2.50 per bushel and has hedged his risk
Futures: a simple example • If the price of corn rises to $3.00 per bushel, the farmer gets $5,000 more for his corn, but loses $5,000 on the futures contract. • The farmer has effectively locked in a price of $2.50 per bushel and has hedged his risk
Futures Trading requires: An Organized Exchange -the Chicago board of Trade is the oldest and largest futures exchange. Standardized contracts - for more frequent trades and greater liquidity
Futures Trading Requires: • An Organized Exchange - the Chicago Board of Trade is the oldest and largest futures exchange. • Standardized Contracts - for more frequent trades and greater liquidity