International finance questions

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FIN 350, International Finance

Problem Set 2, Fall 2014

Due October 19th, 2014

1. What impact would the following changes have on the exchange rate of GBP w.r.t USD? Why?

a. Income levels in UK fall relative to US

b. Interest rates in UK fall relative to US

c. Lower relative inflation in UK

2. For each of the following transactions, check the boxes for all possible hedging techniques:

	Transaction	Buy a Forward	Sell a Forward	Buy Futures	Sell Futures	Buy Calls	Sell Calls	Buy Puts	Sell Puts
A	You will be receiving JPY in six months for exports to Japan
B	Your supplier in Europe expects payment in Euros in 30 days
C	Your subsidiary in Canada will be remitting profits at the end of the year

3. Your company imports wines from France. You will be paying EUR 200,000 for import of 2000 cases of Bordeaux in 3 month. Current spot rate of Euro is $1.2751/91, and the 3-month forward rate is $1.2908/45. In order to avoid risk of currency fluctuation, you negotiate a forward contract with your bank. If the exchange rate three months from now (when you receive the payment) is USD 1.2815/47,

(a) How much will you have to pay for your Euros?

(b) What was your profit/loss due to the forward contract that you had signed?

(c) A 3-month call option on EUR with a strike price of $1.2810 is available for a premium of $0.018, and a 3-month put option with the same strike price is available for a premium of $0.028. What option strategy can you use to hedge your EUR receivables? What will be your profit/loss using this strategy if the exchange rate of EUR is indeed USD 1.2815/47 at the end of three months.

(d) Would you recommend a forward contract or an option contract? Why?