In December, a silversmith estimates the need for 10,000 ounces of silver in June but believes the price may rise before then. The silversmith establishes a hedge in December. In December, June silver futures are trading at $3.95/ounce and the December cash price is $3.75/ounce. On May 25, silver sells for $4.15/ounce in the cash market and $4.55/ounce in the June futures market. (Each futures contact equals 1,000 ounces of silver).
1. What should the silversmith do in December?
2. What is the price of the silver in June assuming the silversmith hedges?
The silversmith can either buy 10 silver futures contracts for the delivery of 10,000 ounces (1,000 ounces ...
The solution determines the inventory control consideration - Silversmith's hedge for price of silver.