Practice Problem #4.D - Forwards

CFA Level II Derivatives
#1

Practice problem #4.d (page 47)

Problem asks what the profit/loss is at expiration of the forward.

Solution:

Forward purchase price (t=1) = $235.69 - got it

Current spot price = $190.69 - Given

Loss to position = -$45.60 - Difference between forward and value of the stock at expiration of the forward, - got it

Then the solution goes on to say, gain from the short position is 225-190 (225 was the stock price when the foward was purchased), driving a net loss of -$10.69 (-45 + 35)

I do not understand how the answer is coming up with the $35 “gain”? How did the investor not take a loss the full 45.60 on the forward? Didn’t they buy the stock for 235.69 when the price at expiration was190?

#2

I believe that their point on the gain is that the alternative to entering into the forward contract was to hold the underlying and sell it at the spot price at time 1; compared to holding it and selling it at $190.69, he sold it at $225 (plus interest), so he gained $34.31 (plus interest).

#3

it seems to me the loss would be from the long forward position and the gain would be from the short stock position.

#4

I see, that does make sense even though the question was rather vague about it … thanks for the help!

#5

I’m glad it does.

My pleasure.