Question 2

A trader who is working in the gold markets is able to borrow money at the interest rate of 7% per annum. The spot price for an ounce of gold is currently $1,400. The forward price for delivery of one ounce of gold in one year is $1,550.

(a) Explain in brief and clear terms with one or two examples what is meant by
the “convenience yield” of a storable commodity.

(b) Suppose that the cost of storing gold is negligible and that gold provides
no income. What strategy should the trader adopt?

(c) Suppose instead that the storage cost of gold is 2% per annum and that gold provides a convenience yield of 1% per annum. Then what strategy would the trader adopt