Suppose the CAPM holds, RF =4%, and the expected return on the market portfolio is 6%. Assumecontinuous compounding. A company will sell 1 unit of gold a year from today. Assume the mean priceof gold GT to be $100 in a year, and the standard deviation of the gold price GT to be $20. Assumethat the gold β = .9.(a) Find the value of the firm if it did no hedging.(b) If the firm went short $ β times the value of the firm in (a) of the market portfolio, and investedthe proceeds in riskless debt, then what would be the hedged firm’s beta? What would be itsexpected return, and what would be the market value of the firm?(c) Find the forward price of a 1-year forward contract on a unit of gold. Find the value of the firmif it hedged its gold price risk in the forward market.
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