Artman Corporation owes 250 million yen to its supplier in 3 months. Artman coul

Question

Artman Corporation owes 250 million yen to its supplier in 3 months. Artman could hedge its exposure by buying call options at the strike price $0.01050/yen. The premium for this option is 0.015 cents per yen.

Artman could also hedge by buying three months yen futures at a price of $0.01064/yen. The current spot rate Yen1=$0.010.  Artman treasurer believes that the most likely value for the yen in 90 days is $0.01041, but the yen could go as high as $0.01087 or as low as $0.00980.

a.    A. Calculate what Artman would gain or lose on the option and futures positions if the yen settled at its most likely value.

b.    B. What is Artman

Explanation / Answer

a. Premium paid for the option = 250 million yen * 0.015 cents/yen = $0.0375mn = $ 37,500

If yen settles at a value of $0.01041/yen, then the call option (whose strike price is 0.01050/yen) will expire worthless, as the actual yen is available cheaper than the strike price. So total loss = $37,500 on the option position.

On the futures position, the futures value is higher than the actual price at the end of 90 days, and so there is net loss to the extent of (0.01064-0.01041)*250million = $0.0575mn (i.e. $57,500) on the futures position.

To recap, Artman will lose $37,500 on the option position, and will lose $57,500 on the futures position.

b. On option position, at breakeven, the gain on call option should be equal to the premium paid of 0.015cents or $0.00015.

So breakeven spot price = strike price + gain = 0.0105+0.00015 = $ 0.01065. This is the breakeven spot price for options position.

On futures position, breakeven occurs when the spot price = futures price = $0.01064/yen. This is the breakeven spot price for futures position.

Hope this helped ! Let me know in case of any queries.

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