What is the difference between an option and a futures contract?

What is the difference between an option and a futures contract?

Assessment Activity 4 Short answer questions Derivatives

Questions 1

What is the difference between an option and a futures contract?

Questions 2

A share trader buys 1000 shares a company with the intent to sell them when that company’s share price increases.  Is the share trader a hedger or speculator?  Explain

Questions 3

Brad is a car collector.  He purchases insurance on his collection to protect himself from damage or theft.  Is the collector a hedger or speculator?  Explain

Questions 4

A manufacturer buys a call option to purchase 600 bales of wool at $1000 a bale and the spot price is $950. To buy this call option, the manufacturer pays an option premium of $12000.

1. If the manufacturer exercises his/her call option, what is the cost for the 600 bales of wool?  (ignore the cost of the option premium)
2. Explain whether or not the manufacturer will exercise the call option.

An oil refinery bought a put option to sell 1,000,000 gallons of airline fuel at $3 per gallon and the spot price is $2.80. To buy this put option, the oil refinery paid an option premium of $60,000.Questions 5

1.  If the oil refinery exercises the put option, how much will they receive for the 1,000,000 gallons of fuel?  (ignore the cost of the option premium)
2. Explain whether or not the oil refinery will exercise the put option.

Questions 6 

Hedgers and speculators are two types of futures traders. For each type, explain what would motivate the trader to open a long futures position.

Questions 7

Marking to market

Paul buys one contract to purchase corn futures in 3 months’ time. One contract covers the purchase of 100 bushels.  The current corn futures price on April 2 is $6,280 per bushel.  The closing price for the corn futures over the subsequent days is provided in column 1 of the table below.  The broker requires you to deposit an initial amount of $7,000 into a margin account.   The maintenance margin is $6,500.  Complete the table below to show how much is transferred to or from your margin account each day?

Remember if the margin balance falls to the maintenance margin, it must be restored to the initial margin level.