Chapter 8 Problems
Chapter 8 1,4,5
1. Cray Research sold a super computer to the Max Planck Institute in Germany on credit and invoiced €10 million payable in six months. Currently, the six-month forward exchange rate is $1.10/€ and the foreign exchange advisor for Cray Research predicts that the spot rate is likely to be $1.05/€ in six months. (a) What is the expected gain/loss from the forward hedging? The expected gain from this sale can be figured by using this equation: 10,000,000(1.10-1.05)=10,000,000(.05)=$500,000 expected gain (b) If you were the financial manager of Cray Research, would you recommend hedging his euro receivable? Why or why not? Cray Research should hedge in this situation. Hedging will allow them to possibly increase the expected dollar by $500,000 and eliminate exchange risk. (c) Suppose the foreign exchange advisor predicts that the future spot rate will be the same as the forward exchange rate quoted today. Would you recommend hedging in this case? Why or why not? I think hedging would still be a good option to help eliminate any risk that could come from exchange risk. 4. Boeing just signed a contract to sell a Boeing 737 aircraft to Air France. Air France will be billed €20 million which is payable in one year. The current spot exchange rate is $1.05/€ and the one-year forward rate is $1.10/€. The annual interest rate is 6.0% in the U.S. and 5.0% in France. Boeing is concerned with the volatile exchange rate between the dollar and the euro and would like to hedge exchange exposure. (a) It is considering two hedging alternatives: sell the euro proceeds from the sale forward or borrow euros from the Credit Lyonnaise against the euro receivable. Which alternative would you recommend? Why? The company should elect to use forward hedging. This option will allow them to gain more money. (20,000,000)(1.10)=$22,000,000. The money market hedge would mean the company would have to
1. Cray Research sold a super computer to the Max Planck Institute in Germany on credit and invoiced €10 million payable in six months. Currently, the six-month forward exchange rate is $1.10/€ and the foreign exchange advisor for Cray Research predicts that the spot rate is likely to be $1.05/€ in six months. (a) What is the expected gain/loss from the forward hedging? The expected gain from this sale can be figured by using this equation: 10,000,000(1.10-1.05)=10,000,000(.05)=$500,000 expected gain (b) If you were the financial manager of Cray Research, would you recommend hedging his euro receivable? Why or why not? Cray Research should hedge in this situation. Hedging will allow them to possibly increase the expected dollar by $500,000 and eliminate exchange risk. (c) Suppose the foreign exchange advisor predicts that the future spot rate will be the same as the forward exchange rate quoted today. Would you recommend hedging in this case? Why or why not? I think hedging would still be a good option to help eliminate any risk that could come from exchange risk. 4. Boeing just signed a contract to sell a Boeing 737 aircraft to Air France. Air France will be billed €20 million which is payable in one year. The current spot exchange rate is $1.05/€ and the one-year forward rate is $1.10/€. The annual interest rate is 6.0% in the U.S. and 5.0% in France. Boeing is concerned with the volatile exchange rate between the dollar and the euro and would like to hedge exchange exposure. (a) It is considering two hedging alternatives: sell the euro proceeds from the sale forward or borrow euros from the Credit Lyonnaise against the euro receivable. Which alternative would you recommend? Why? The company should elect to use forward hedging. This option will allow them to gain more money. (20,000,000)(1.10)=$22,000,000. The money market hedge would mean the company would have to