Post-Workshop Topic10 (Ch12)

BUS330: International Finance
Post-Topic10 (Chapter 12):

Managing Transaction Exposure
Students should study about the Managing Transaction Exposure (chapter 12)
thoroughly to prepare Final Exam. As part of final exam preparation, students should
solve following post-topic10 problems by employing their understandings/concepts
that have been developed through pre-topic10 and topic10 sessions.
Post-Topic10 Problems
4. Net Transaction Exposure. Why should an MNC identify net exposure before
hedging?
6. Hedging with Forward Contracts. Explain how an Australian company could

hedge net receivables in Malaysian ringgit with a forward contract.
Explain how an Australian company could hedge payables in New Zealand dollars
with a forward contract.
8. Benefits of Hedging. If hedging is expected to be costlier than not hedging, why

would a company even consider hedging?
10. Hedging Decision. Kayla Co. imports products from India, and it will make
payment in rupees
in 90 days. Interest rate parity holds. The prevailing interest rate in India is very high,
which reflects the high expected inflation there. Kayla expects that the Indian rupees
will depreciate over the next 90 days. Yet, it plans to hedge its payables with a 90-
day forward contract. Why may Kayla believe that it will pay a smaller amount of
Australian dollars when hedging than if it remains unhedged?
11. Hedging Payables. Assume the following information:

90-day Australian interest rate = 4%
90-day Malaysian interest rate = 3%
90-day forward rate of Malaysian ringgit = A$0.400
Spot rate of Malaysian ringgit = A$0.404
Assume that Australia’s leading retailer, Harvey Norman, will need 300,000 ringgit in
90 days. It wishes to hedge this payables position. Would it be better off using a
forward hedge or a money market hedge? Substantiate your answer with estimated
costs for each type of hedge.
1
12. Hedging Decision on Receivables. Assume the following information:
180-day Australian interest rate = 8%
180-day British interest rate = 9%
180-day forward rate of British pound = A$1.50
Spot rate of British pound = A$1.48
Assume that Riverside Corp. from Australia will receive £400,000 in 180 days. Would
it be better off using a forward hedge or a money market hedge? Substantiate your
answer with estimated revenue for each type of hedge.
14. Currency Options. Can Brooklyn Co. determine whether currency options will
be more or less expensive than a forward hedge when considering both hedging
techniques to cover net payables in euros? Why or why not?
19. Hedging With Put Options. As treasurer of Tucson Corp. (a US exporter to

New Zealand), you must decide how to hedge (if at all) future receivables of 250,000
New Zealand dollars 90 days from now. Put options are available for a premium of
US$0.03 per unit and an exercise price of US$0.49 per New Zealand dollar. The
forecasted spot rate of the NZ$ in 90 days follows:
Future Spot Rate Probability

US$0.44 30%
US$0.40 50%
US$0.38 20%
Given that you hedge your position with options, create a probability distribution for
US dollars to be received in 90 days.
20. Forward Hedge. Would Oregon Co.’s real cost of hedging Australian dollar
payables every 90 days have been positive, negative, or about zero on average over
a period in which the dollar weakened consistently? What does this imply about the
forward rate as an unbiased predictor of the future spot rate? Explain.
23. Forward versus Options Hedge on Payables. If you are a US importer of

Australian goods and you believe that today’s forward rate of the Australian dollar is
a very accurate estimate of the future spot rate, do you think Australian dollar call
options would be a more appropriate hedge than the forward hedge? Explain.
24. Forward versus Options Hedge on Receivables. You are an exporter of goods
to Australia, and you believe that today’s forward rate of the Australian dollar
substantially underestimates the future spot rate. Company policy requires you to
hedge your Australia dollar receivables in some way. Would a forward hedge or a
put option hedge be more appropriate? Explain.
25. Forward Hedging. Explain how a Malaysian company can use the forward
market to hedge periodic purchases of Australian goods denominated in Australian
dollars. Explain how a French firm can use forward contracts to hedge periodic sales
of goods sold to Australia that are invoiced in Australian dollars. Explain how a
British company can use the forward market to hedge periodic purchases of
Japanese goods denominated in yen.
2
27. Hedging Payables with Currency Options. Malibu, Inc., is a US company that
imports Australian goods. It plans to use call options to hedge payables of 100,000
Australian dollar in 90 days. Three call options are available that have an expiration
date 90 days from now. Fill in the number of US dollars needed to pay for the
payables (including the option premium paid) for each option available under each
possible scenario.
Spot Spot Rate of Exercise Price Exercise Price Exercise Price

Rate = US$0.74 = US$0.76 = US$0.79
Australian
dollar 90 Days from Premium = US$0.06 Premium = US$0.05 Premium =
now US$0.03
1 US$0.65
2 US$0.70
3 US$0.75
4 US$0.80
5 US$0.85
If each of the five scenarios had an equal probability of occurrence, which option
would you choose? Explain.
39. Forecasting Cash Flows and Hedging Decision. Virginia Co. has a subsidiary
in Hong Kong
and in Thailand. Assume that the Hong Kong dollar is pegged at US$.13 per Hong
Kong dollar and it will remain pegged. The Thai baht fluctuates against the US dollar,
and is presently worth US$.03. Virginia Co. expects that during this year, the US
inflation rate will be 2 per cent; the Thailand inflation rate will be 11 per cent, while
the Hong Kong inflation rate will be 3 per cent. Virginia Co. expects that purchasing
power parity will hold for any exchange rate that is not fixed (pegged). Virginia Co.
will receive 10 million Thai baht and 10 million Hong Kong dollars at the end of one
year from its subsidiaries.
a. Determine the expected amount of US dollars to be received from the Thai

subsidiary in one year when the baht receivables are converted to US dollars.
b. The Hong Kong subsidiary will send HK$1 million to make a payment for supplies
to the Thai subsidiary. Determine the expected amount of baht that will be received
by the Thai subsidiary when the Hong Kong dollar receivables are converted to Thai
baht.
c. Assume that interest rate parity exists. Also assume that the real one-year interest
rate in the United States is 1.0%, while the real interest rate in Thailand is 3 per cent.
Determine the expected amount of US dollars to be received by Virginia Co. if it uses
a one-year forward contract today to hedge the receivables of 10 million baht that will
arrive in one year.
3
52. Money Market Versus Put Option Hedge. Narto Co. (a US company) exports
to Australia and expects to receive 500,000 Australian dollar in one year. The one-
year US interest rate is 5 per cent when investing funds and 7 per cent when
borrowing funds. The one-year Australian interest rate is 9 per cent when investing
funds, and 11 per cent when borrowing funds. The spot rate of the Australian dollar
is US$0.80. Narto expects that the spot rate of the Australian dollar will be US$0.75
in one year. There is a put option available on Australian dollar with an exercise price
of US$0.79 and a premium of US$0.02.
a. Determine the amount of US dollars that Narto Co. will receive at the end of one
year if it implements a money market hedge.
b. Determine the amount of US dollars that Narto Co. expects to receive at the end
of one year (after accounting for the option premium) if it implements a put option
hedge.
56. Comparison of Hedging Techniques. Today, the spot rate of the Australian
dollar is US0.79. The one-year forward rate is A$0.75. A one-year call option on
Australian dollar exists with a premium of US$0.04 per unit and an exercise price of
US$0.76. You think the spot rate is the best forecast of future spot rates. You will
need to pay 10 million Australian dollar in one year. Determine whether a money
market hedge or a call option hedge would be more appropriate to hedge your
payables. (Assume that the one-year interest rate in Australia and United States are
9 per cent and 4 per cent, respectively)
59. Estimating the Hedged Cost of Payables. Grady Co. is a manufacturer of

hockey equipment in Chicago, and will need 3 million Australian dollar in one year to
pay for imported supplies. The US one-year interest rate is 2 per cent while
Australia’s one-year interest rate is 7 per cent. The spot rate of the Australian dollar
is US$0.90. The one-year forward rate of the Australian dollar is US$0.88. A one-
year call option on Australian dollar exists with an exercise price of US$0.90 and a
premium of US$0.03 per unit. As the Treasurer of Grady Co., you think the spot rate
of the Australian dollar is the best forecast of the future spot rate of the Australian
dollar.
a. If you use a money market hedge, determine the amount of US dollars that you
will pay for the payables.
b. If you use a call option hedge, determine the expected amount of US dollars that
you will pay for the payables (account for the option premium within your estimate).

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What are some of the hedging techniques discussed in the document?

What factors should be considered when deciding between different hedging options?

BUS330: International Finance

Post-Topic10 (Chapter 12):

6. Hedging with Forward Contracts. Explain how an Australian company could

8. Benefits of Hedging. If hedging is expected to be costlier than not hedging, why

11. Hedging Payables. Assume the following information:

19. Hedging With Put Options. As treasurer of Tucson Corp. (a US exporter to

Future Spot Rate Probability

23. Forward versus Options Hedge on Payables. If you are a US importer of

Spot Spot Rate of Exercise Price Exercise Price Exercise Price

a. Determine the expected amount of US dollars to be received from the Thai

59. Estimating the Hedged Cost of Payables. Grady Co. is a manufacturer of

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