Thomas Foods Case Study

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Register to read the introduction… Due to the simplicity of the contract and as it is very easy to understand forward contract, this happens to be the most popular contract among all the hedging tools that are available in the market. Generally a forward contact cannot be customized like future contract. In the field of agriculture, this is the fit in contract in order to go for hedging strategies. Forward contracts may take many initiatives in order to go for choosing the contract time and terms and conditions for the contract. While going for forward contract, it is very important that, we first of all should fix with our positions and then go for writing the terms and conditions with the other party with whom we are writing the contract. In case of forward contract, they get traded in the market and while going for forward contract, we need to pay certain amount of premium to the party. But in case of forward contract, the drawback is that, once we have entered to the forward contract, we cannot come out of it if the prices outside are very less as compared to the contract price. So these are the risks that we run in case of forward contract. But the benefit is that, we may fix the position of contract, so that our cash flows are fully estimated going …show more content…
An options contract is one contract where in the buyer of the option has the right not the obligation of buying or selling the underlying asset in the future date at the pre-agreed upon price. If the estimated price under the option contract is favourable, then we should go exercising the contract otherwise we should not be exercising the contract. There are various types of option contract and let us discuss about the option contract pertained to the commodity. In case of options, the writer of the option pays certain premium and avail the contract. So on the delivery date of the option, if the price of underlying commodity is favourable for the option writer, then leaves the contract without writing and the option remains lapsed. Generally the options are six months in nature. Once the option expires, then the contract gets vanished and subsequently a new contract we enter into. In case of options, suppose that Thomas Foods had entered into an agreement of buying a bag of Wheat for $100 on November 25, 2014 and for this the company has given premium of $5. On November 25, 2014 the price of a bag of Wheat is $140 in the market. So the company should go exercise the contract as the price of the wheat for the company would be $105 ($100 + $5), where as the price of the contract in the market is $140. So there is a benefit of $35 for the company. This is how, option contract can be used, but it is very difficult to understand and you have to be extra careful while dealing with option

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