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Hedging Decision
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Hedging Decision. Indiana Company expects to receive 5 million Australian dollars in one year from exports, and it wants to consider hedging its exchange rate risk. The spot rate of Australian dollar as of today is US$0.79. Interest rate parity exists. Indiana Co. uses the forward rate as a predictor of the future spot rate. The annual interest rate in the United States is 8 per cent versus an annual interest rate of 5 per cent in Australia. Put options on Australian dollars are available with an exercise price of US$0.80, an expiration date of one year from today, and a premium of US$.06 per unit. Estimate the US dollar cash flows that Indiana Co. will receive as a result of using each of the following strategies. It can use any one of the following strategies to deal with the exchange rate risk. Estimate the dollar cash flows received as a result of using the following strategies:
- unhedged strategy
- money market hedge
- option hedge
The spot rate of the euro as of today is $1.10. Interest rate parity exists. Indiana Company uses the forward rate as a predictor of the future spot rate. The annual interest rate in the US is 8% versus an annual interest rate of 5% in the eurozone. Put options on euros are available with an exercise price of $1.11, an expiration date of one year from today, and a premium of $.06 per unit. Estimate the dollar cash flows it will receive as a result of using each strategy. Which hedge is optimal?
Hedging Decision. Indiana Company expects to receive 5 million Australian dollars in one year from exports, and it wants to consider hedging its exchange rate risk. The spot rate of Australian dollar as of today is US$0.79. Interest rate parity exists. Indiana Co. uses the forward rate as a predictor of the future spot rate. The annual interest rate in the United States is 8 per cent versus an annual interest rate of 5 per cent in Australia. Put options on Australian dollars are available with an exercise price of US$0.80, an expiration date of one year from today, and a premium of US$.06 per unit. Estimate the US dollar cash flows that Indiana Co. will receive as a result of using each of the following strategies. It can use any one of the following strategies to deal with the exchange rate risk. Estimate the dollar cash flows received as a result of using the following strategies:
- unhedged strategy
- money market hedge
- option hedge
The spot rate of the euro as of today is $1.10. Interest rate parity exists. Indiana Company uses the forward rate as a predictor of the future spot rate. The annual interest rate in the US is 8% versus an annual interest rate of 5% in the eurozone. Put options on euros are available with an exercise price of $1.11, an expiration date of one year from today, and a premium of $.06 per unit. Estimate the dollar cash flows it will receive as a result of using each strategy. Which hedge is optimal?
Option 1
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