Solution manual financial management 10e by keown chapter 21

CHAPTER 21 Risk Management CHAPTER ORIENTATION The purpose of this chapter is to look at futures, options, and currency swaps and explain how they are used by financial managers to control risk CHAPTER OUTLINE I Futures and options can be used by the financial manager to reduce the risks associated with interest rates, and exchange rates, and commodity price fluctuations A A futures contract is a contract to buy or sell a stated commodity (such as soybeans or corn) or a financial claim (such as U.S Treasury bonds) at a specified price at some future specified time A futures contract is a specialized form of a forward contract distinguished by: (l) an organized exchange, (2) a standardized contract with limited price changes and margin requirements, (3) a formal clearinghouse and (4) daily resettlement of contracts a An organized exchange provides a central trading place and encourages confidence in the futures market by allowing for effective regulation of trading b Standardized contracts lead to greater liquidity in the secondary market for that contract, which in turn draws more traders into the market c The futures clearinghouse serves to guarantee that all trades will be honored This is done by having the clearinghouse interpose itself as the buyer to every seller and the seller to every buyer d Under the daily resettlement process, maintenance margins must be maintained For the financial manager financial futures provide an excellent way of controlling risk in interest rates, foreign exchange rates, and stock fluctuations 11 B There are two basic types of options: puts and calls A call option gives its owner the right to purchase a given number of shares of stock or some other asset at a specified price over a specified time period A put gives its owner the right to sell a given number of shares of common stock or some other asset at a specified price over a given time period II The popularity of options can be explained by their leverage, financial insurance, and investment alternative expansion features a The leverage feature allows the financial manager the chance for unlimited capital gains with a very small investment b When a put with an exercise price equal to the current stock price is purchased, it insures the holder against any declines in the stock price over the life of the put This is the financial insurance feature of options and can be used by portfolio managers to reduce risk exposure in portfolios c From the point of view of the investor, the use of puts, calls, and combinations of them can materially increase the set of possible investment alternatives available Recently, five new variations of the traditional option have appeared: the stock index option, the interest rate option, the foreign currency option, the Treasury bond futures option, and leaps a Stock index options are merely options with the underlying asset being the value or price of an index of stocks for example, the S&P 100 b Interest rate and foreign exchange currency options are also merely options with the underlying asset being the Treasury bonds or a specific foreign currency c Options on Treasury bond futures are different from other bond options in that they involve the acquisition of a futures position rather than the delivery of actual bonds The buyer of an option on a futures contract achieves immunization against any unfavorable price movements, whereas the buyer of a futures contract achieves immunization against any price movements regardless of whether they are favorable or unfavorable Currency Swaps are another technique for controlling exchange rate risk available to the financial manager Whereas options and futures contracts generally have a fairly short duration, a currency swap provides the financial manager with the ability to hedge away exchange rate risk over longer periods It is for that reason that currency swaps have gained in popularity A A currency swap is simply an exchange of debt obligations in different currencies Interest rate swaps are used to provide long-term exchange rate risk hedging Actually, a currency swap can be quite simple, with two firms agreeing to pay each other's debt obligation 12 B The nice thing about a currency swap is that it allows the firm to engage in long-term exchange rate risk hedging since the debt obligation covers a relatively long time period C One of the more popular is the interest rate currency swap where the principal is not included in the swap That is, only interest payment obligations in different currencies are swapped D The key to controlling risk is to get an accurate estimate on the net exposure level the firm is subjected to Then, the firm must decide whether it feels it is prudent to subject itself to the risk associated with possible exchange rate fluctuations ANSWERS TO END-OF-CHAPTER QUESTIONS 21-1 Commodity and financial futures are the same other than the type of item specified in the contract, that is the item to be delivered With a commodity future, the item to be delivered is an article of commerce such as soybeans, or wheat, while with a financial future the item to be delivered is a financial instrument such as a certificate of deposit or Eurodollars 21-2 A manufacturer of electronic equipment might need copper in a few months and feel that the price of copper in the futures market is extremely low As a result it might purchase a futures contract for delivery of copper in five months If the price of copper goes up, the futures contract has saved the company money; however, if the price of copper drops, the futures contract does not allow the company to participate in the price drop Thus, the futures contract eliminates the effect of any future price change 21-3 A financial manager planning on issuing debt one month from now who was concerned about possible interest rate rises might wish to write a futures contract on Treasury bonds If interest rates went up, the money made on the futures contract would offset the increase costs associated with having to issue the debt at a higher interest rate On the other hand, if interest rates fell, the losses on the futures contracts would be offset by the gains associated with the fact that the debt could now be issued at a lower rate In effect, the futures contract serves to lock in the current interest rate 21-4 A call option is the option to buy stock or some other asset at a specified price over a specified time period 21-5 A put is the option to sell a stock or some other asset at a specified price over a specified time period 21-6 (a) Standardization of the options contracts (b) Creation of a regulated central marketplace (c) Creation of the Options Clearinghouse Corporation 13 (d) Trading was made certificateless, allowing for up-to-date and continuous records of trader's positions (e) The result of all this has been the creation of a liquid secondary market with dramatically decreased transactions costs 21-7 An option on a futures contract is exactly what it sounds like An example is an option on Treasury Bond futures While the purchaser of a futures contract on Treasury bonds benefits from any decreases in interest rates, the purchaser is negatively affected by any increases in interest rates With an option on Treasury Bond futures, the futures contract will only be exercised if the holder makes money Thus, with a futures contract there is the potential for both favorable and unfavorable price movements, whereas with an option on a futures contract unfavorable price movements are limited to the cost of the option 21-8 With either buying a call or writing a put the investor is "betting" that the stock price will rise In the case of buying a call the purchaser has the right to purchase a given number of shares of stock at a set price Thus, the purchaser only makes money if the stock rises in price, and the potential profits are unlimited In the case of writing a put, the put writer receives a premium when he or she sells the put Then if the stock price rises the put becomes worthless and the put writer profits by the amount of the premium In this case the maximum potential profits are the premium 21-9 A currency swap provides the financial manager with the ability to hedge away exchange rate risk over longer periods It is for that reason that currency swaps have gained in popularity A currency swap is simply an exchange of debt obligations in different currencies Interest rate swaps are used to provide longterm exchange rate risk hedging 14 ANSWERS TO END-OF-CHAPTER PROBLEMS 21-1A (a) Purchasing a call with an exercise price of $65 with a $9 premium 20 Profit or Loss 15 Maximum Profits = Unlimited 10 Breakeven Point = $74 10 20 -5 30 40 50 60 70 75 Maximum loss = $9 Exercise or Striking Price = $65 -9 -10 Stock Price at Option Expiration (b) Purchase a call with an exercise price of $70 with a $6 premium 40 30 Maximum Profits = Unlimited Pr ofit 20 or Lo 10 ss -10 Breakeven Point = $76 10 } 20 30 40 50 Maximum loss = $6 -20 15 60 70 80 Exercise or Striking Price = $70 21-2A (a) Profit or loss graph for a call writer for a call with an exercise price of $65 and a premium of $9 10 Breakeven Point (Exercise Price + Premium) = $74 } Maximum Profits = $9 10 Profit or Loss -10 20 30 40 50 60 70 80 Exercise or Striking Price = $65 -20 Maximum Loss = $ Unlimited -30 -40 (b) Profit or loss graph for a call writer for a call with an exercise price of $70 and a premium of $6 Breakeven Point (Exercise Price + Premium) = $76 10 Profit or Loss -10 }Maximum Profits = $6 10 20 30 40 50 60 Exercise or Striking Price = $70 -20 -30 -40 -50 16 70 80 Maximum Loss = $ Unlimited 21-3A A Profit or loss graph for the purchase of a put with an exercise price of $45 and a premium of $5 60 Maximum Profits = $40 Profit or Loss 50 40 30 Breakeven Point (Exercise Price Premium) = $40 20 10 Maximum Loss = $5 - 10 20 30 40 50 70 }80 90 Exercise or Striking Price = $45 -10 - A Profit or loss graph for writing a put with an exercise price of $45 and a premium of $5 10 Exercise or Striking Price = $45 } 10 20 30 Profit or Loss 21-4A 60 -10 40 50 70 80 90 Maximum Profits = $5 Breakeven Point (Exercise Price Premium) = $40 -20 -30 -40 60 Maximum Loss = $40 -50 -60 17 Solutions to Chapter Problems 21-1B (a) Purchasing a call with an exercise price of $50 with a $5 premium 20 Profit or Loss 15 Maximum Profits = Unlimited 10 Breakeven Point = $55 -5 10 } 20 30 40 50 60 70 80 Exercise or Striking Price = $50 Maximum loss = $5 -10 Stock Price at Option Expiration (b) Purchase a call with an exercise price of $55 with a $6 premium 40 Maximum Profits = Unlimited Profit or Loss 30 20 Breakeven Point = $61 10 -10 10 } 20 30 40 50 Maximum loss = $6 -20 18 60 70 80 Exercise or Striking Price = $55 21-2B (a) Profit or loss graph for a call writer for a call with an exercise price of $50 and a premium of $5 Breakeven Point (Exercise Price + Premium) = $55 10 } Maximum Profits = $5 10 Profit or Loss -10 20 30 40 50 60 70 80 Exercise or Striking Price = $50 -20 Maximum Loss = $ Unlimited -30 -40 (b) Profit or loss graph for a call writer for a call with an exercise price of $55 and a premium of $6 10 Profit or Loss -10 -20 -30 Breakeven Point (Exercise Price + Premium) = $61 }Maximum Profits = $6 10 20 30 40 50 60 Exercise or Striking Price = $55 Maximum loss = $ Unlimited -40 -50 19 70 80 21-3B A Profit or loss graph for the purchase of a put with an exercise price of $60 and a premium of $4 60 Maximum Profits = $56 Profit or Loss 50 40 30 20 Breakeven Point (Exercise Price – Premium) = $56 10 Maximum loss = $4 -10 - 20 30 40 50 } 70 60 80 90 Exercise or Striking Price = $60 A Profit or loss graph for writing a put with an exercise price of $60 and a premium of $4 10 Profit or Loss 21-4B 10 Exercise or Striking Price = $60 10 20 30 40 50 60 } 70 -10 -20 Breakeven Point (Exercise Price – Premium) = $56 -30 -40 -50 Maximum Loss = $56 -60 20 80 90 Maximum Profits = $4 SOLUTION TO INTEGRATIVE PROBLEM Derivative securities allow the financial manager to eliminate the effects of interest rate, foreign exchange, and commodity price fluctuations For example, a manufacturer of electronic equipment might need copper in a few months and feel that the price of copper in the futures market is extremely low As a result it might purchase a futures contract for delivery of copper in five months If the price of copper goes up, the futures contract has saved the company money; however, if the price of copper drops, the futures contract does not allow the company to participate in the price drop Thus, the futures contract eliminates the effect of any future price change Interest rate futures can be used to eliminate the effects of interest rate movements For example, a financial manager planning on issuing debt one month from now who was concerned about possible interest rate rises might wish to write a futures contract on Treasury bonds If interest rates went up, the money made on the futures contract would offset the increased costs associated with having to issue the debt at a higher interest rate On the other hand, if interest rates fell, the losses on the futures contracts would be offset by the gains associated with the fact that the debt could now be issued at a lower rate In effect, the futures contract serves to lock in a future interest rate In a similar manner foreign exchange futures can be used to lock in exchange rates while stock index futures can be used to lock in stock prices Foreign currency options can be used to lock in the exchange rate on a foreign exchange rate like the British Pound or the Japanese Yen Currency swaps can also be used to control exchange rate risk over longer periods of time With a futures contract, all exchange rate movements, both favorable and unfavorable are eliminated With an option, it is only exercised if it is in the best interests of the option holder In effect, the buyer of an option on a futures contract can achieve immunization against any unfavorable price movements, whereas the buyer of a futures contract can achieve immunization against any price movements regardless of whether they are favorable or unfavorable An option on a futures contract is exactly what it sounds like An example is an option on Treasury Bond futures While the purchaser of a futures contract on Treasury bonds benefits from any decreases in interest rates, the purchaser is negatively affected by any increases in interest rates With an option on Treasury Bond futures, the futures contract will only be exercised if the holder makes money Thus, with a futures contract there is the potential for both favorable and unfavorable price movements, whereas with an option on a futures contract unfavorable price movements are limited to the cost of the option 21 Purchasing a call with an exercise price of $25 with a $6 premium 20 Maximum Profits = Unlimited Profit or Loss 15 10 Breakeven Point = $31 10 20 30 40 50 60 70 75 Maximum Loss = $6 -5 Exercise or Striking Price = $25 -6 -10 Stock Price at Option Expiration Profit or loss graph for a call writer for a call with an exercise price of $25 and a premium of $6 10 Profit or Loss Breakeven Point (Exercise Price + Premium) = $31 Maximum Profits = $6 } 10 20 30 40 50 -10 -20 -30 -40 Exercise or Striking Price = $25 Maximum Loss = $ Unlimited 22 60 70 80 A Profit or loss graph for the purchase of a put with an exercise price of $30 and a premium of $5 60 50 Profit or Loss Maximum Profits = $25 40 30 20 Breakeven Point (Exercise Price – Premium) = $25 10 - 10 20 30 50 } 60 70 80 90 Exercise or Striking Price = $30 -10 - A Profit or loss graph for writing a put with an exercise price of $30 and a premium of $5 10 Profit or Loss 40 Maximum Loss = $5 -10 -20 Exercise or Striking Price = $30 } 10 20 30 40 50 60 70 80 90 Maximum Profits = $5 Breakeven Point (Exercise Price – Premium) = $25 -30 Maximum Loss = $25 -40 -50 -60 23 10 A currency swap provides the financial manager with the ability to hedge away exchange rate risk over longer periods It is for that reason that currency swaps have gained in popularity A currency swap is simply an exchange of debt obligations in different currencies Interest rate swaps are used to provide long-term exchange rate risk hedging If I am an American firm with much of my income coming from sales in England, I might enter in a currency swap with an English firm The nice thing about a currency swap is that it allows the firm to engage in long-term exchange rate risk hedging since the debt obligation covers a relatively long time period 24 Appendix to Chapter 21 Convertible Securities and Warrants APPENDIX ORIENTATION The purpose of this appendix is to explain the use of convertibles and warrants and to describe the terminology associated with them and their valuation CHAPTER OUTLINE I A convertible security is a bond or preferred stock that can be exchanged for a stated number of common shares at the option of the holder A The conversion ratio is the stated number of shares that the security can be converted into B The conversion price is the face or par value of the security divided by the conversion ratio C The conversion value equals the conversion ratio times the market price of the stock when one converts D The security value of a convertible is the price the convertible debenture (or preferred stock) would sell for in the absence of its conversion feature E The conversion premium is the difference between the market price of the convertible and the higher of the security value or the conversion value F There are several reasons generally given for issuing convertibles: As a sweetening to long-term debt to make the security attractive enough to ensure a market for it As a method of delayed common stock financing a No dilution of earnings occurs at time of issuance b Companies expect them to be converted sometime in the future 25 c G H Less dilution of earnings occurs in the future because the conversion price is greater than the common stock price at time of issuance The interest rate associated with convertible debt is, to an extent, indifferent to the risk level of the issuing firm There are two ways in which a company can stimulate conversion: Include an acceleration clause, which periodically increases the conversion price and results in a lower conversion ratio over time Force conversion by calling the convertible The value of the convertible security is twofold The value of the common stock into which it can be converted is the first component The value of the bond or preferred stock provides a cushion or a floor value in case the stock price does not rise significantly (Provided interest rates not increase) $I N security value = ∑ t =1 where I = i= N= (1 + i) t + $M (1 + i) N annual dollar interest paid to the investor each year market yield to maturity on straight bond of same company and with same seniority & maturity number of years to maturity M = maturity value or par value of the debt II I The market price of a convertible security is frequently above the higher of security value and conversion value; this difference is called the premium J Unless the conversion feature is considered worthless, the security will sell for a premium-over-security value (i.e., above the value of the security solely as a bond or preferred stock) K In comparing the two premiums, one finds an inverse relationship between them In the extremes, the convertible security is selling either as a common stock or a bond equivalent Warrants are a "sweetener" added to a bond or debt issue Warrants entitle the holder to purchase a specified number of shares of stock at a stated price A The exercise price can be either fixed or "stepped up" over time B A warrant usually has a fixed expiration date C A detachable warrant can be sold separately in the marketplace D A nondetachable warrant can only be exercised by the bondholder and cannot be sold on its own 26 E Warrants are issued for two major reasons: Warrants are attached to debt issues as sweeteners to increase the marketability of these issues Warrants provide an additional cash inflow when they are exercised Convertible securities not F The minimum price of a warrant is equal to the price of the common stock less the exercise price times the exercise ratio G The premium on a warrant is the amount above the minimum price for which the warrant sells ANSWERS TO END-OF-CHAPTER QUESTIONS 21A-1 (a) The conversion ratio is the number of shares of common stock for which the convertible security can be exchanged (b) The conversion value of a convertible security is the market value of the common stock for which the convertible can be exchanged (c) The conversion premium is the difference between the convertible's market price and the higher of its security value or its conversion value 21A-2 The major reason for issuing convertibles is, that interest rates on convertibles are indifferent to the issuing firm’s risks level Several reasons why firms choose to issue convertibles include "sweetening" the long-term debt issue to make it more attractive, delayed equity financing, raising temporarily inexpensive funds, and financing corporate mergers 21A-3 Investors are willing to pay a premium over value in order to have the possibility of capital gains from stock price advances, coupled with the security of the fixed interest payments associated with a debenture 21A-4 If the price of the underlying common stock goes up, the convertible will be valued as common stock, while if the price of the underlying common stock goes down, the convertible will be valued as a bond and not fall accordingly Graphically this is illustrated in Figure 21A.1 If interest rates rise, the security value will fall, lowering the bond floor on the convertible On the other hand, if interest rates fall, the security value will rise, increasing the value of the convertible as a bond 21A-5 If the convertible is never exercised, then the cost of the convertible will be lower than nonconvertible debt If the convertible is converted, its cost becomes interest payments while it was not converted and dividends after it is In this case, the cost of the convertible depends upon the conversion ratio, the common stock dividends, and the time at which the security is converted In any case, while the cost of convertibles many times is less than the nonconvertible debt, the limitations it imposes on the firm's financing flexibility must also be considered Thus, the issuance of convertibles involves a trade-off between cost and future financing flexibility 27 21A-6 A convertible security is a debenture or preferred stock that can be converted into common stock at the owner's discretion A warrant, on the other hand, is similar to a long-term right, in that it is merely an option to purchase common stock at a stated price When a convertible is exercised, it is exchanged directly for common stock; however, with a warrant, both money and the warrant are exchanged for the common stock 21A-7 The minimum price of a warrant is equal to zero until the price of the stock rises above the warrant's exercise price After that, the warrant's minimum price takes on positive values The degree to which the warrant price rises with increases in the common stock price depends upon the exercise ratio In addition, investors are willing to pay a premium for warrants because only a small loss is possible, in that the warrant price is less than that of the common stock and has large return possibilities 21A-8 Several factors affect the size of the warrant premium including: (1) The stock price/exercise price-ratio As the ratio of the stock price to the exercise price climbs, the warrant premium falls, because the leverage ability of the warrant declines (2) The time left to the warrant expiration date As the expiration date approaches the size of the warrant premium shrinks (3) Investors' expectations concerning the capital gains potential of the stock If investors feel favorably about the stock, the warrant premium is larger (4) The degree of price volatility on the underlying common stock The more volatile the common stock, the higher the warrant premium SOLUTIONS TO END-OF-APPENDIX PROBLEMS Solutions To Set A 21A-1A (a) Conversion ratio = Par value of convertible security conversion price = $1,000 $40 = 25 shares 28 (b) Conversion value (c) (d) =  Market value  (Conversion ratio) x  pershare of the   common stock  = 25 shares x $27.25/share = $681.25 = Conversion premium in absolute dollars $60 20 ∑ t =1 (1 + 0.09) t + $1,000 (1 + 0.09) 20 = $60 (9.129) + $1,000(0.178) = $547.74 + $178 = $725.74 =  Market price of   Higher of the   the convertible    -  security value and    bond    conversion value  = $840.25 - $725.74 = $114.51 = Par value of convertible security conversion price = $25 $27 = 0.9259 =  Market value  (Conversion ratio) x  per share of the   common stock  = (0.9259) x ($13.25) = $12.27 21A-2A (a) (b) Conversion ratio Conversion value 29 (c) Value as straight preferred stock = Conversion premium (in absolute dollars) = = $1.25 0.08 $15.63  Market price of   Higher of the security   the convertible   value and conversion   preferred stock  -   value     = $17.75 - $15.63 = $2.12 =  Market price of − Exercise   Exercise   common stock price  x  ratio   = ($25 - $30) x 1.0 = -$5 21A-3A (a) Minimum price Thus, the minimum price on this warrant is considered to be zero, because things simply not sell for negative prices (b) Warrant premium = Market price of warrant - Minimum price of warrant = $4 - $0 = $4 21A-4A (a) Minimum price =  Market price of − Exercise   Exercise   common stock  x  ratio  price     = ($10.00 - 11.71) x 1.0 = -$1.71 Thus, the minimum price on this warrant is considered to be zero, because things simply not sell for negative prices Warrant premium warrant = Market price of warrant - Minimum price of = $3 - = $3 30 (b) Minimum price Warrant premium =  Market price of − Exercise   Exercise   common stock  x  ratio  price     = ($16.375 - $11.71) x 1.0 = $4.665 =  Market price - Minimum price   of warrant of warrant   = $9.75 - $4.665 = $5.085 =  Market price of − Exercise   Exercise   common stock price  x  ratio   = ($7.25 - $22.94) x 3.1827 = (-$15.69) (3.1827) = -$49.94 21A-5A Minimum price Thus, the minimum price on this warrant is considered zero, because things simply not sell for negative prices Warrant premium 21A-6A =  Market price − Minimum price   of warrant of warrant   = $6.25 - = $6.25 The gain on the warrants is 100($7.50-$3.00) = $450 for a return of $450 300 = 150% If $300 had been invested in stock, 7.5 shares could have been purchased and those shares would have risen in price by $5 per share for a return of $37.50 or 12.50% 31 Solutions to Problem Set B 21A-1B (a) (b) (c) (d) Conversion ratio Conversion value Security Value = Par value of convertible security conversion price = $1,000 $45 = 22.22 shares =  Market value  (Conversion ratio) x  per share of the   common stock  = 22.22 shares x $26.00/share = $577.72 = $70 20 ∑ t =1 (1 + 0.09) t + $1,000 (1 + 0.09) 20 = $70 (9.129) + $1,000(0.178) = $639.03 + $178 = $817.03 Conversion premium in absolute dollars  Market price of   the convertible   bond   = = $840.25 - $817.03 = $23.22  Higher of the   security value and     conversion value  21A-2B (a) Conversion ratio = = = Par value of convertible security conversion price $25 $28 0.8929 32 (b) (c) Conversion value =  Market value  (Conversion ratio) x  per share of the   common stock  = (0.8929) x ($14.00) = $12.50 Value as straight preferred stock = = Conversion premium (in absolute dollars) = $18.75  Market price of   Higher of the security   the convertible   value and conversion   preferred stock  -   value     = $20.00 - $18.75 = $1.25 =  Market price of − Exercise   Exercise   common stock  x  ratio  price     = ($24 - $32) x 1.0 = -$8 21A-3B (a) Minimum price Thus, the minimum price on this warrant is considered to be zero, because things simply not sell for negative prices (b) Warrant premium =  Market price − Minimum price   of warrant of warrant   = $5 - $0 = $5 33 21A-4B (a) Minimum price =  Market price of − Exercise   Exercise   common stock price  x  ratio   = ($9.00 - 11.75) x 1.0 = -$2.75 The minimum price on this warrant is considered to be zero, because things simply not sell for negative prices Warrant premium Minimum price Warrant premium =  Market price Minimum price   of warrant −  of waranet   = ($4.00 - 0) = $4.00 = Market price of Exercise − common stock price = ($15.375 - $11.75) × 1.0 = $3.625 =  Market price Minimum price   of warrant −  of waranet   = ($7.00 - $3.625) = $3.375 21A-5B Minimum price Minimum price =  Market price of Exercise   Exercise   × −  price   ratio   common stock = ($8.00 - $22.94) = $63.60 The minimum price on this warrant is considered to be zero because things simply not sell for negative prices Warrant premium =  Marketprice − Minimumprice   ofwarrant ofwarrant   34 = ($6.75 – 0) = $6.75 = $400 for a return of 21A-6B The gain on the warrants is 100($6.75-$2.75) $400 = 145.45% 275 If $275 had been invested in stock, 7.86 shares could have been purchased and those shares would have increased in value by $5 each for a gain of $39.30 or 14.29% 35 ... Profit or Loss 21- 4A 60 -10 40 50 70 80 90 Maximum Profits = $5 Breakeven Point (Exercise Price Premium) = $40 -20 -30 -40 60 Maximum Loss = $40 -50 -60 17 Solutions to Chapter Problems 21- 1B (a)... the risk associated with possible exchange rate fluctuations ANSWERS TO END-OF -CHAPTER QUESTIONS 21- 1 Commodity and financial futures are the same other than the type of item specified in the contract,... such as soybeans, or wheat, while with a financial future the item to be delivered is a financial instrument such as a certificate of deposit or Eurodollars 21- 2 A manufacturer of electronic equipment