Green Backs Bank wishes to take a position in Treasury bond futures contracts, w

Question

Green Backs Bank wishes to take a position in Treasury bond futures contracts, which currently have a quote of 96-240. Green Backs thinks interest rates will go down over the period of investment.

A. Should the bank go long or short on the futures contracts?

B. Given your answer to part (a), calculate the net profit to Tree Row Bank if the price of the futures contracts increases to 99-160?

C. Given your answer to part (a), calculate the net profit to Tree Row Bank if the price of the futures contracts decreases to 94-080.

Explanation / Answer

A. Bond price is inversly related to the interest rates. Bond price is the sum of present values of Interest payments and Bond maturity value.

Here the discount rate is rate of interest. So if rate of interest increases, the Bond price decreses because discounting with higher rate will give you lesses amount.

As per estimation of Green Backs the Interest rate will go down over the period of investment.

As a result price of Bond will increase.

Green Backs Bank should go long on the futures contracts.

A long postion is entered when there is expectation of rise in price.

B. Profit or loss on 1 contract of T-Bond Futures

Profit or Loss = Number of contracts x Change in price * $1000

Minimum Tick - 1/32 In percent of par to 1/32nd of 1% of par

Tick Value = $31.25

= [99+160/32 - 96+240/32] x $1,000

= (104 - 103.5) x $1,000

Profit = $500

C. Profit or loss on 1 contract of T-Bond Futures

= [94+080/32 - 96+240/32] x $1,000

= (96.5 - 103.50) x $1,000

Loss = $7,000

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