ABC Ltd. is planning to borrow a sum of ₹100 crore after 3 months. To hedge itself against the risk of increase in 91-days interest rate (which is currently 5.25%), the Company decided to trade in 91-Day Government of In

CS Professional · Capital Commodity and Money Market · PYQS · December 2021
ABC Ltd. is planning to borrow a sum of ₹100 crore after 3 months. To hedge itself against the risk of increase in 91-days interest rate (which is currently 5.25%), the Company decided to trade in 91-Day Government of India (GOI) Treasury Bill Future which is currently available at ₹95. The specification relating to these Future Contract are as follows: Unit of Trading Face value ₹2,00,000 Underlying 91-Day GOI Treasury Bill Contract Size ₹2,00,000 Settlement At Weighted Average Discount Yield obtained from weekly auction of 91-day T-Bill conducted by RBI on the day of expiry. You are required to: (iii) Calculate the effective cost of funds to ABC Ltd. (1) If on the day of settlement 91-Day Interest Rate rises to 6% and the Weighted Average Discount Yield obtained from weekly auction of 91-day T-Bill conducted by RBI comes out to be 5.95%.

Answer & Explanation:

If interest rate rise to 6% and settlement price for Future Contract comes to 5.95%. The settlement value of Future Contract: = 2000 (100 - 5.95 × 91 / 365) = ₹1,97,033 To close out the position ABC Ltd. will buy contract at ₹1,97,033 against sold earlier at ₹1,97,507. Hence overall profit shall be: 5063 (₹1,97,507 - ₹1,97,033) = ₹23,99,862 Thus, amount to be borrowed shall be: Total amount required ₹1,00,00,00,000 Less: Amt. of Profit on Future Contract ₹23,99,862 ₹99,76,00,138 Amount repayable after 91 days: = ₹99,76,00,138 (1 + 0.06 × 91 / 365) = ₹99,76,00,138 (1.01496) = ₹1,01,25,24,236 Effective Interest Rate = (1,01,25,24,236 / 1,00,00,00,000) × 365 / 91 × 100 = 5.02% Alternative Solution The settlement value of Future Contract: = (₹2000 × 100) / (1 + 0.0595 × 91 / 365) = ₹1,97,077 To close out the position ABC Ltd. will buy contract at ₹1,97,077 against sold earlier at ₹197537. Hence overall profit shall be: 5062 (197537 - ₹1,97,077) = ₹23,28,520 Thus, amount to be borrowed shall be: Total amount required ₹1,00,00,00,000 Less: Amt. of Profit on Future Contract ₹23,28,520 ₹99,76,71,480 Amount repayable after 91 days: = ₹99,76,71,480 (1 + 0.06 × 91 / 365) = ₹99,76,71,480 (1.01496) = ₹1,01,25,96,645 Effective Interest Rate = (1,01,25,96,645 / 1,00,00,00,000) × 365 / 91 × 100 = 5.05%

Topics: Interest Rate Futures

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