Explanation:
A large decline cannot be protected via selling calls—when a trader sells calls, the maximum protection is the premium received, so further declines are unprotected. Because of Goldex's desire to keep the upside of the position, a short futures position is inappropriate (short futures will cause losses if spot prices rise, thus offsetting gains on the physical position). A long put option on futures is the only viable strategy that meets both requirements (upside potential and downside protection), albeit coming at the cost of the put's premium.
(Book 3, Module 30.1, LO 30.c)
Ultimate access to all questions.
Question 28
The risk manager for a gold trading company, Goldex, which holds a significant amount of physical gold in inventory. Goldex is worried about a potential large decline in the price of gold. The manager would like to keep as much of the upside as possible in the event that spot prices do rise. He is considering three strategies:
Which strategy is likely to best meet these objectives?
A
Strategy 1.
B
Strategy 2.
C
Strategy 3.
D
Either Strategy 1 or Strategy 2.
No comments yet.