Reading 34: Alternative Investm....olio Management－LOS n structure, contract, return, three

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CFA Institute Area 8-11, 13: Asset Valuation
Session 11: Alternative Investments for Portfolio Management
Reading 34: Alternative Investments Portfolio Management
LOS n: Explain the three components of return for a commodity futures contract and the effect that an upward- or downward-sloping term structure of futures prices will have on roll yield.

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Jill Beaman, CFA, has recorded the components of the return on a commodity futures contract. The return on the futures contract is $17, the spot return is $9, and the roll return is $5. What is the collateral return?

A) $6.89.

B) $3.00.

C) $22.00.

D) $31.00.

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Answer and Explanation

Total return = spot return + collateral return + roll return.
Collateral return = total return - spot return - roll return.

$3 = $17 - $9 - $5

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With respect to a commodity futures contract, the collateral return:

A) is the opportunity cost of storing the commodity.

B) is highly correlated with the spot rate.

C) represents the return on a fully hedged commodity position which should be approximately the risk-free rate.

D) represents the return on a fully hedged commodity position which should be approximately zero.

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Answer and Explanation

The collateral return or collateral yield is the result of the no-arbitrage assumption that if an investor is long a contract and invests an amount in T-bills that will be equal to the amount required to pay for the required purchase at the maturity of the futures contract. Such a fully-hedge position should earn the risk-free rate.

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Jill Beaman, CFA, notices that for wheat futures there is a downward-sloping term structure of futures prices. Beaman should recognize that this would be associated with:

A) normal backwardation and a negative roll return.

B) contango and a positive roll return.

C) contango and a negative roll return.

D) normal backwardation and a positive roll return.

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Answer and Explanation

Normal backwardation, when it exists, produces a downward-sloping term structure of futures prices. Such a condition predicts a positive roll return. If the term structure is positive, which is a result of contango, the roll return would be negative.