International Financial Management
14th Edition
ISBN: 9780357130698
Author: Madura
Publisher: Cengage
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The ABC Sports Company receives British pounds each month as payment for the footballs that it exports. It anticipates that the pound will depreciate over time against the Australian dollar. How can the ABC Sports Company use currency futures contracts to hedge against exchange rate risk? Are there any limitations in the use of currency futures contracts when locking in a specific exchange rate at which ABC Sports Company can sell all the pounds it expects to receive in each of the upcoming months?
Are there any limitations in the use of currency futures contracts when locking in a specific exchange rate at which company can sell all the pounds it expects to receive in each of the upcoming months?
Busco has a foreign-currency denominated payable, it can hedge by buying the foreign currency payable forward. The company can expect to eliminate the exposure without incurring costs as long as the forward exchange rate is an unbiased predictor of the future spot rate. Bus Co exported an A350 to a UK business, and was billed the sum of £11,000,000 payable in three months. Currently the spot rate is $1.30/£ and the three-month forward rate is $1.26/£.The three-month money market interest rate is 11% per annum in US and 7% per annum in UK.So the management of Busco decided to manage this transaction exposure and use the money market hedge to deal with this pound account payable.
(i) Show how Busco can eliminate the exchange rate exposure by computing the dollar cost of meeting the pound obligation.
ii)Conduct a cash flow analysis of the money market hedge.
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- Match each term in Column A with its related definition in Column B. Column A 1. ____________ Spot rate 2. ____________ Currency appreciation 3. ____________ Translation risk 4. ____________ Transaction risk 5. ____________ Exchange rate Column B a. The rate at which one currency can be traded for another currency. b. The possibility that future cash transactions will be affected by changing exchange rates. c. A month ago, 1 U.S. was worth 8.5 Mexican pesos. Today, 1 is worth 9.0 Mexican pesos. The U.S. dollar has undergone what? d. The degree to which a firms financial statements are exposed to exchange rate fluctuation. e. The exchange rate of one currency for another for immediate delivery (today).arrow_forwardIn the following cases, state which type of exchange rate risk the company is facing and wheter this risk is beneficial or harmful in nature. A British power-generating company imports coal from Germany, paying for the coal in euros. The company expects the pound to weaken against the euro over the next year. A UK toy company supplies only the domestic market. Its only major competitor in this market if a US toy company. The pound is expected to weaken against the dollar over the next year. A UK company has bought a factory in France, financing the purchase with a sterling borrowing. Over the next year the pound is expected to appreciate against the euro.arrow_forwardA multinational corporation based in the United States expects to receive a large payment in euros from its European client in six months. The corporation wants to hedge against potential depreciation of the euro. Which specific forward contract(s) could the company use to mitigate the currency risk? Select all that apply: Buy U.S. dollars forward against euros Sell U.S. dollars forward against euros Buy euros forward against U.S. dollars Sell euros forward against U.S. dollarsarrow_forward
- What is the relationship or link between the forward rate and the foreign currency option premium? An option's value declines over time, but it does not do it evenly. Explain what that means for option valuation? Classify the following as a transaction reported in a sub-component of the current account or the capital and financial accounts of the two countries involved: An American tourist pays for a hotel in Paris with his American Express card.arrow_forwardABC Co. expects a payment from an American customer in 30 days. To hedge its currency exposure, ABC Co. shoulda. Sell dollars forward 30 days.b. Buy dollars forward 30 days.c. Sell pesos forward 30 days.d. Do nothing as there is no foreign exchange rate exposure for a 30 day time horizon.arrow_forwardIf the U.S. dollar were to appreciate substantially, what steps could a domestic manufacturer such as Cummins Engine Co. of Columbus, Indiana, take in advance to reduce the effect of the exchange rate fluctuation on company profitability?arrow_forward
- A US company needs to make a one-time payment of 50 million dollars in Mexican Pesos in about 6 months, and would like to hedge against the risk that exchange rates may change. Describe in words the hedging strategy that the company should take. Remember that a possible answer is that the company should not be hedging at all.arrow_forwardIf a U.S. firm desires to avoid the risk from exchange rate fluctuations, and it will need C$200,000 in 90 days to make payment on imports from Canada, it could: A. obtain a 90-day forward purchase contract on Canadian dollars. B. obtain a 90-day forward sale contract on Canadian dollars. C. purchase Canadian dollars 90 days from now at the spot rate. D. sell Canadian dollars 90 days from now at the spot rate.arrow_forwardWhich of the following best describes the terms 'long forward position' and 'short forward position' in foreign exchange trading? A short forward position is holding a currency for a short duration, while a long forward position is holding it for a longer period. A short forward position means you have agreed to sell a currency in the future, while a long forward position means you have agreed to buy it in the future. A long forward position is when you expect the currency's future spot rate to decrease, and a short forward position is when you expect it to increase. A long forward position means you have agreed to sell a currency in the future, and a short forward position means you have agreed to buy it in the future.arrow_forward
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