Suppose you are a speculator who lives in a world where there are two islands: Island...

Suppose you are a speculator who lives in a world where there are two islands: Island A and Island B. These two islands produce and trade rice. Today, the spot price for rice in both islands is trading at 320 cts/bushell and the storage costs in either island is 40 cts/bushell for a period of two weeks. Additionally, since these two islands trade, you can buy shipping to take from one island to the other one. The cost of shipping is 30 cts/bushell from one island to the other and it takes two weeks from the time it leaves one port to reach the final destination. Shipping is a complex process since it requires the grain to be loaded into containers, then stacked and secured inside the vessel along with everyone else’s cargo. Today, the 2-week forward with delivery in Island A is trading at 360 cts/bushell and the 2-week forward with delivery in Island B is trading at 340 cts/bushell. Can you arbitrage this market and how much do you stand to earn for every unit traded? (Suppose you don’t have an initial cash position, but that the interest rate is zero percent).

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Rahul Sunny answered 1 year ago

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