Need all questions answered with work shown on questions 27, 29, and 30
The West Virginia coal coalition sold four cargo shipments to India to assist with energy requirements in rebuilding Nepal post the Spring 2015 earthquake. The first contract required a 2 million pound payment due in three months.
Current spot exchange rate: £ 1.2788 / $
3-month forward exchange rate : £ 1.4670 / $
3-month put premium on UK pounds: $ 0.03 / £
3-month put option on UK pounds: $ 0.75 / £ Current
3-month U.S. interest rate: 3.1 %
Current 3-month U.K. interest rate: 4.2 %
27. Calculate the guaranteed dollar proceeds from the sale if your coalition hedges using a forward contract.
a. $ 1,363,326.52
b. $ 1,563,966.22
c. $ 2,934,000.00
d. $ 1,919,385.80
28. To hedge with a money market instrument, what would be the actions taken?
a. Borrow the PV of the receivable at the US interest rate, exchange dollars for pounds and invest the pounds at the UK interest rate.
b. Borrow the pound receivable at the US interest rate and invest it at the UK interest rate, exchange the pound for dollars.
c. Borrow the PV of the pound receivable at the UK interest rate, exchange pounds for dollars at the current spot rate and invest the dollars at the US interest rate.
d. Lend dollars at the US interest rate and exchange dollars for pounds in three months.
29. What would the guaranteed dollar proceeds from the sale be using a money market hedge (this is the value at t=3 months)?
d. $ 1,919,385.80
30. If you use a put option on pounds to hedge this sale, what are expected dollar proceeds when the three-month forward rate, an unbiased predictor of the future spot exchange rate, is expected to be spot at contract maturity (what is the put option value at t=3 months)?
31. Between the option, forward and money market hedges which is the best?
a. Option hedge
b. Forward hedge
c. Money market hedge
d. It is not in their best interests to hedge
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