A cotton producer has purchased cotton futures that involve 50,000 pounds of cotton at a price of $0.60 per pound.By contract expiration the producer finds that cotton prices have declined by $0.07 per pound.As a result of the futures contracts, the producer will:
A)Lose $3,500 per contract in the futures market which offsets gains in the cash market
B)Gain $3,500 per contract in the futures market which offsets losses in the cash market
C)Lose $3,500 per contract in the futures market and suffer an opportunity cost in the cash market
D)Gain $3,500 per contract in the futures market and gain $0.10 per pound in the cash market

Question

Quizplus · Accepted Answer

The producer bought futures contracts at $0.60 per pound for a total cost of $30,000 (50,000 pounds x $0.60). However, at contract expiration, the price has declined to $0.53 per pound (a $0.07 decline). If the producer had not purchased the futures contracts, they could have sold the cotton on the cash market for $0.53 per pound and received $26,500 (50,000 pounds x $0.53). But because the producer has the futures contracts, they are required to sell the cotton at the contract price of $0.60 per pound, resulting in a loss of $3,500 ($30,000 - $26,500). Therefore, the correct answer is C, as the producer will lose $3,500 in the futures market and suffer an opportunity cost in the cash market.

A Cotton Producer Has Purchased Cotton Futures That Involve 50,000