A company expects to borrow a large sum in two months' time and is concerned that interest rates will rise before then. How should it use short-term interest rate futures to hedge this risk?

Correct answer: D) Sell interest rate futures now and buy them back when the loan is taken out

Explanation

Interest rate futures are priced at 100 minus the interest rate, so their price falls when interest rates rise. A borrower therefore sells futures now; if rates rise, the futures can be bought back at a lower price, and the profit offsets the higher interest cost on the loan. Buying futures (or call options on them) protects a future depositor against falling rates.