Erwin Manufacturing Company has a floating-rate interest payment tied to LIBOR due in June 2005. The CFO wants to use interest rate futures to hedge the risk that LIBOR could increase. How would he do this?
A) Buy an interest rate futures contract (long position).
B) Buy an interest rate futures contract (short position).
C) Sell an interest rate futures contract (long position).
D) Sell an interest rate futures contract (short position).
E) None of the above-this is not what an interest rate futures contract is designed to do.

Question

Quizplus · Accepted Answer

To hedge against the risk of rising interest rates, the CFO should sell an interest rate futures contract (take a short position). If interest rates rise, the value of the futures contract will decrease, offsetting the increased cost of the floating-rate interest payment.

Erwin Manufacturing Company Has a Floating-Rate Interest Payment Tied to LIBOR