Podcast
Questions and Answers
A Canadian company needs to pay £10 million in 6 months. The forward bid-ask quote is $2.00 - $2.50/£. To hedge against foreign exchange risk, what action should the company take?
A Canadian company needs to pay £10 million in 6 months. The forward bid-ask quote is $2.00 - $2.50/£. To hedge against foreign exchange risk, what action should the company take?
- Sell £10 million forward at $2.00/£.
- Buy $25 million forward at $2.50/£.
- Sell $25 million forward at $2.00/£
- Buy £10 million forward at $2.50/£. (correct)
A Canadian company is importing goods from the UK and needs to pay £10 million in 6 months. They hedge using a forward contract at a rate of $2.50/£. What is the equivalent Canadian dollar value of this payment at the time of the transaction?
A Canadian company is importing goods from the UK and needs to pay £10 million in 6 months. They hedge using a forward contract at a rate of $2.50/£. What is the equivalent Canadian dollar value of this payment at the time of the transaction?
- $15 million
- $25 million (correct)
- $4 million
- $20 million
Which of the following statements about hedging with forward contracts is most accurate?
Which of the following statements about hedging with forward contracts is most accurate?
- Hedging is always without cost since forward contracts do not require an upfront fee.
- Hedging is without cost, but you must pay a transaction fee.
- Forward contracts require no upfront fee, but the locked-in exchange rate may be less favorable than the future spot rate. (correct)
- Forward contracts require an upfront fee, making hedging costly, but guarantees a better rate.
A Canadian exporter will receive £15 million in 6 months. The forward bid-ask quote is $2.00 - $2.50/£. To hedge the foreign exchange risk, the company should:
A Canadian exporter will receive £15 million in 6 months. The forward bid-ask quote is $2.00 - $2.50/£. To hedge the foreign exchange risk, the company should:
A Canadian export company is expecting to receive £15 million in 6 months. It hedges this exposure by selling forward at a rate of $2.00/£. What are the expected Canadian dollar proceeds from this hedge?
A Canadian export company is expecting to receive £15 million in 6 months. It hedges this exposure by selling forward at a rate of $2.00/£. What are the expected Canadian dollar proceeds from this hedge?
A Canadian exporter will receive US$1 million in 3 months. The forward bid-ask quote is US$0.74 - 0.78/C$. To hedge against foreign exchange risk, the exporter should:
A Canadian exporter will receive US$1 million in 3 months. The forward bid-ask quote is US$0.74 - 0.78/C$. To hedge against foreign exchange risk, the exporter should:
A Canadian exporter expects to receive US$1 million in 3 months and hedges by selling forward at US$0.78/C$. What are the expected Canadian dollar proceeds from this transaction?
A Canadian exporter expects to receive US$1 million in 3 months and hedges by selling forward at US$0.78/C$. What are the expected Canadian dollar proceeds from this transaction?
Which of the following actions is most likely to effectively hedge the risk of a future foreign currency payment?
Which of the following actions is most likely to effectively hedge the risk of a future foreign currency payment?
A company is due to receive foreign currency in the future. What hedging strategy should it implement to mitigate its foreign exchange risk?
A company is due to receive foreign currency in the future. What hedging strategy should it implement to mitigate its foreign exchange risk?
Which of these is the most accurate description of a foreign exchange bid-ask spread?
Which of these is the most accurate description of a foreign exchange bid-ask spread?
A U.S. company needs to pay €5 million to a European supplier in 3 months. The current spot rate is $1.10/€, and the 3-month forward rate is $1.12/€. Which action would effectively hedge this future payment?
A U.S. company needs to pay €5 million to a European supplier in 3 months. The current spot rate is $1.10/€, and the 3-month forward rate is $1.12/€. Which action would effectively hedge this future payment?
A Canadian firm exports goods to the United States and will receive US$2 million in 6 months. The current spot rate is $0.75/C$, and the 6-month forward rate is $0.77/C$. What is the main reason the firm might choose to hedge this transaction?
A Canadian firm exports goods to the United States and will receive US$2 million in 6 months. The current spot rate is $0.75/C$, and the 6-month forward rate is $0.77/C$. What is the main reason the firm might choose to hedge this transaction?
A company wishes to hedge against the risk of a foreign currency weakening against its domestic currency. Which action would be most appropriate?
A company wishes to hedge against the risk of a foreign currency weakening against its domestic currency. Which action would be most appropriate?
What differentiates a hedging strategy from a speculative strategy in foreign exchange markets?
What differentiates a hedging strategy from a speculative strategy in foreign exchange markets?
A Canadian company knows it will receive €2 million in 3 months. The spot rate is $1.50/€, and the 3-month forward rate is $1.52/€. If the company hedges using a forward contract, how much will it receive in Canadian dollars in 3 months?
A Canadian company knows it will receive €2 million in 3 months. The spot rate is $1.50/€, and the 3-month forward rate is $1.52/€. If the company hedges using a forward contract, how much will it receive in Canadian dollars in 3 months?
What is the primary advantage of using forward contracts to hedge foreign exchange risk?
What is the primary advantage of using forward contracts to hedge foreign exchange risk?
A Canadian importer needs to pay ¥100 million in 6 months. The current spot rate is $0.01/¥, and the 6-month forward rate is $0.0095/¥. What would be the cost in Canadian dollars if the company uses a forward contract to hedge?
A Canadian importer needs to pay ¥100 million in 6 months. The current spot rate is $0.01/¥, and the 6-month forward rate is $0.0095/¥. What would be the cost in Canadian dollars if the company uses a forward contract to hedge?
Which type of company is most likely to use hedging strategies?
Which type of company is most likely to use hedging strategies?
A Canadian company will pay €1 million in 3 months for goods purchased from a European supplier. To hedge the foreign exchange risk, what should the company do?
A Canadian company will pay €1 million in 3 months for goods purchased from a European supplier. To hedge the foreign exchange risk, what should the company do?
A company expects to receive proceeds in a foreign currency in the future. Which hedging strategy would be most effective in minimizing its risk?
A company expects to receive proceeds in a foreign currency in the future. Which hedging strategy would be most effective in minimizing its risk?
Flashcards
Hedging Foreign Exchange Risk (Buying)
Hedging Foreign Exchange Risk (Buying)
To protect against foreign exchange risk when buying a foreign currency, buy the currency forward at the forward ask price.
Calculating Hedged Payment Value
Calculating Hedged Payment Value
The Canadian dollar value of a hedged payment is calculated by multiplying the amount of the foreign currency by the forward ask price.
Cost of Hedging
Cost of Hedging
Hedging is not without cost even if there is no upfront fee since the forward rate may not be the same as the spot rate.
Hedging Foreign Exchange Risk (Selling)
Hedging Foreign Exchange Risk (Selling)
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Calculating Hedged Proceeds Value
Calculating Hedged Proceeds Value
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Ask Price (Foreign Exchange)
Ask Price (Foreign Exchange)
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Bid Price (Foreign Exchange)
Bid Price (Foreign Exchange)
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Hedging
Hedging
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Speculator
Speculator
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Speculative operations
Speculative operations
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Leverage
Leverage
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Study Notes
- These are in-class problems with solutions regarding foreign exchange risk.
Problem 1
- A Canadian import company must pay £10 million in 6 months to a UK supplier.
- The 6-month forward bid-ask quote is $2.00 - $2.50/£.
- To hedge against foreign exchange risk, the import company can buy £10 million forward.
- The Canadian dollar value of the payment after hedging is $25 million (10 million * $2.5).
- Hedging is not without cost, even though forward contracts have no upfront fee.
Problem 2
- A Canadian export company will receive £15 million in 6 months from a UK buyer.
- Based on the bid-ask quote in Problem 1 ($2.00 - $2.50/£), the export company can hedge against foreign exchange risk.
- This is achieved by selling £15 million forward.
- The Canadian dollar proceeds from hedging will be $30 million (£15 million * $2).
Problem 3
- The 3-month forward bid-ask quote is US$ 0.74 - 0.78/C$.
- A Canadian exporter will receive US$ 1 million in 3 months.
- To hedge, the exporter should sell US$ 1 million forward.
- The Canadian dollar proceeds will be approximately $1,282,051.28 (calculated as $1,000,000 / 0.78).
Additional Recommendations
- Grasp bid-ask quotes from the table on page 7 of the textbook.
- Understand hedging material in the textbook from pages 11-13, referencing Example 1.1 on page 13.
- Read speculator material and speculative profit and loss calculations in Table 1.4 on page 1.
- Also, understand profit and loss calculation under the spot market alternative.
- Understand the reasons for the difference in profit and losses under the two alternatives.
- Understand why the futures market allows for "leverage".
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