USE THE INFORMATION BELOW FOR THE FOLLOWING PROBLEM(S)
Assume you are the Treasurer for the Johnson Pharmaceutical Company and in late July 2004, the company is considering the sale of $500 million in 20-year bonds that will most likely be rated the same as the firm's other debt issues. The firm would like to proceed at the current rate of 8.5%, but you know that it will probably take until November to bring the issue to market. Therefore, you suggest that the firm hedge the pending issue using Treasury bond futures contracts, which each represent $100,000.

-Refer to Exhibit 15.2. How you would go about hedging the bond issue?
A) buy 5,000 contracts
B) buy 50,000 contracts
C) sell 5,000,000 contracts
D) sell 5,000 contracts
E) sell 500 contracts

Question

USE THE INFORMATION BELOW FOR THE FOLLOWING PROBLEM(S)
Assume you are the Treasurer for the Johnson Pharmaceutical Company and in late July 2004, the company is considering the sale of $500 million in 20-year bonds that will most likely be rated the same as the firm's other debt issues. The firm would like to proceed at the current rate of 8.5%, but you know that it will probably take until November to bring the issue to market. Therefore, you suggest that the firm hedge the pending issue using Treasury bond futures contracts, which each represent $100,000.
 
-Refer to Exhibit 15.2. How you would go about hedging the bond issue?
A) buy 5,000 contracts 
B) buy 50,000 contracts 
C) sell 5,000,000 contracts 
D) sell 5,000 contracts 
E) sell 500 contracts

Quizplus · Accepted Answer

To hedge a bond issue, you would sell futures contracts to protect against interest rate increases that would reduce the bond's price. The exact number of contracts depends on the size of the bond issue and the specifications of the futures contract, but among the given options, selling 5,000 contracts is a plausible choice for a standard hedge without knowing the specific details of the bond issue or the futures contract size.