Lesson 2 Exercise 4: An Asset with Two Known Dollar Dividends (Don Chance page 49, Practice Problem 2)

Note: If you need further assistance in understanding this concept, view the Forward Contract on Assets With Known Incomes at Two Different Times video by clicking on the Instructional Videos link in the left menu.

An asset manager anticipates the receipt of funds in 200 days, which he will use to purchase a particular stock. The stock is currently selling for $62.50 and will pay a $0.75 dividend in 50 days and another $0.75 dividend in 140 days. The risk-free rate is 4.2% for all maturities. The manager decides to commit to a future purchase of the stock by going long a forward contract on the stock.

1. At what price would the manager commit to purchase the stock in 200 days?
2. Suppose the manager enters into the contract at the price you found in part A. 75 days later, the stock price is $55.75. Determine the value of the forward contract at this point.
3. It is now the expiration day and the stock price is $58.50. What is the value of the forward contract?

This exercise provides you with an opportunity to review some concepts of forward contracts on investment assets with two known dollar dividends. Please attempt to solve the question on your own and then check the answers in the textbook. Finally, please submit your work to the Lesson 2: Exercise 4 Drop Box to retrieve the Excel solution. The Excel solution is a locked file and can only be accessed once you have submitted your work to the Lesson 2: Exercise 4 Drop Box. Note: The cells which are highlighted yellow within the Excel worksheet are input data.

Review your answers in comparison to the solution. If you have wrong answers to the question, you should revisit the forward contracts concepts presented. And, if you still have difficulties understanding the material and why you made mistakes, please contact me.