Boyd Company sold a futures contract (one) on Treasury bonds that specified a pr

Question

Boyd Company sold a futures contract (one) on Treasury bonds that specified a price of 93-00. When the position was closed out, the price of the Treasury bond futures contract was 94-20.

A) Did interest rates increase or decrease? How do you know?

B) What was Boyd’s profit or loss from this contract (ignoring transaction costs)?

C) Assume that Boyd was speculating, did the company benefit from (or was it hurt by) this transaction? Explain (very) briefly.

D) Assume that Boyd was using this contract to hedge. Did Boyd benefit from, or was it hurt by, this transaction? Explain (a little less) briefly

Explanation / Answer

(A) The interest rates have decreased. Since it is known that interest rates and bond prices are inversely proportional, therefore as the bond prices have increased, it implies that the interest rates have gone down.

(B) As the bond prices went up, so Boyd made a loss of (94.20 - 93.00 =) 1.20 from this contract.

(C) In case of speculating, Boyd won't be having any initial exposure and has to buy from the market to suffice the future contract. Since the bond prices went up, Boyd made a loss of 1.20 from this transaction. As such the transaction would hurt Boyd.

(D) In case of hedging, Boyd would be holding exposure in the bond price and the future contract would just limit both upside and downside risk and the profit/ loss would be known upfront. As such the transaction won't hurt or benefit Boyd.

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