Test Bank Chapter 2

Rotman School of Management

MGT 438 Options and Futures

Marcel Rindisbacher

January 24, 2007

Test Questions Chapter 2

The following collection of questions provides a quick comprehension test for Chapter 2.

1. A company enters into a short futures contract to sell 50,000 pounds of cotton for 70 cents.
The initial margin is $4,000 and the maintenance margin is $3,000. What is the futures price
above which there will be a margin call?

2. A company enters into a long futures contract to buy 1,000 barrels of oil for $20 per barrel.
The initial margin is $6,000 and the maintenance margin is $4,000. What oil futures price
will allow $2,000 to be withdrawn from the margin account?

3. On the floor of a futures exchange one futures contract is traded where both the long and
short parties are closing out existing positions. What is the resultant change in the open
interest?

4. You sell three December gold futures contracts when the futures price is $410 per ounce.
Each contract is on 100 ounces of gold and the initial margin per contract is $2,000. The
maintenance margin per contract is $1,500. During the next seven days the futures prices
rises slowly to $412 per ounce. What is the balance of your margin account at the end of the
seven days?

Answers

Use the following notation for questions 1,2,4:

• M0 : initial balance of margin account

• M1 : new balance of margin account

• M : maintenance margin

• F0 : initial futures price

• F1 : new futures price

• Q multiplier of future contract

1
• N: number of futures contracts

1. We are short a futures contract and therefore receive a margin call if

M0 + Q × (F0 − F1 ) ≤ M

and therefore
M0 − M $4, 000 − $3, 000
F1 ≥ + F0 = + $0.7 = $0.72
Q 50, 000

2. We can withdraw W if
M0 − Q × (F0 − F1 ) ≥ M0 + W

or equivalently,
W $2, 000
F1 ≤ + F0 = + $20 = $22.
Q 1, 000

3. Open interest is down one contract.

4. The end balance is

 
M0
N× + Q × (F0 − F1 ) = 3 × ($2, 000 + 100 × ($410 − $412)) = $5, 400.
N