8.13 Points] Airbus sold an aircraft, A400, to Delta Airlines, a U.S. company, a

Question

8.13 Points] Airbus sold an aircraft, A400, to Delta Airlines, a U.S. company, and billed S130 million payable in six months. Airbus is concerned with the euro proceeds from international sales and would like to control exchange risk. The current spot exchange rate is $1.45/e and six-month forward exchange rate is $1.55/ at the moment. Airbus can buy a six-month put option on U.S. dollars with a strike price of 1.35/S for a premium of 0.03 per U.S. dollar. Currently, interest rate is 5.5% in the euro zone and 7.0% in the US. (all interest rates are APR) a. Compute the guaranteed euro proceeds from the American sale if Airbus decides to hedge using a forward contract (0.75 point) Forward: b. If Airbus decides to hedge using money market instruments, what action does Airbus need to take? What would be the guaranteed euro proceeds from the American sale in this case? 0.75 point) c. If Airbus decides to hedge using put options on U.S. dollars, what would be the 'expected' euro proceeds from the American sale? Assume that Airbus regards the current forward exchange rate as an unbiased predictor of the future S1.551(0.75 point) spot exchange rate. ie., S6-month -Fo- d. At what future spot exchange rate (ie.,at what S6-month ? )do you think Airbus will be indifferent be- tween the option and money market hedge? (0.75 point)

Explanation / Answer

Soln : a) Amount payable in six months = $130 mn, 6 month future if bought, the amount of euro to pay = 130/1.55 = Euro 83.87 mn

b) Let's say that Airbus borrowed in Euro = 130/1.45 = 89.66 million euros along with interest at 5.5%, amount to be paid after 6 months = 89.66 mn, amount to be borrowed = Euro 87.26 million = 89.66/(1+0.055/2)

Now, this amount will be taken and invested in USD to get the amount in USD = 87.26*1.45*(1+0.07/2) = $130.96 mn

Euro proceeds we can say here = 130.96/1.55 = Euro 84.488 mn

c) In case if Put option be used for hedging , in that case USD to be sold after 6 months i.e. After 6 months Euro received = 130 million/1.55 = Euro 83.87 and Amount to be paid in premium of put option = 130*0.03 = $ 3.9 million. Exchange rate if using put option, So, it received an amount of USD = 130 million, Net anount after reducing premium = 130-3.9 = 126.10

Amount of Euro proceeds = 126.1*1.35 = Euros 170.23 million

d) Let x be the value of exchange rate in future , in that case money market Euro= 170.23 mn

Or we can say 130.96/E = 170.23 , or E = 0.7693/Euro

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