Assume that X corp needs 100,000 New Zealand dollars 180 days from now. If the p

Question

Assume that X corp needs 100,000 New Zealand dollars 180 days from now. If the probability distribution is

Possible Value of New Zealand Dollars in 180 days

Probability

$0.40

5%

$0.45

10%

$0.48

30%

$0.50

30%

$0.53

20%

$0.55

5%

The 180-day forward rate of the New Zealand dollar is $0.52. The spot rate of the New Zealand dollar is $0.49. Develop a table showing a feasibility analysis for hedging. That is, determine the possible differences between the costs of hedging vs. no hedging. What is the possibility that hedging will be costlier to the firm than not hedging? Determine the expected value of the additional costs of hedging.

Possible Value of New Zealand Dollars in 180 days

Probability

$0.40

5%

$0.45

10%

$0.48

30%

$0.50

30%

$0.53

20%

$0.55

5%

Explanation / Answer

Feasibility Analysis for Hedging :

Given,180 days forward rate of the Newzealand Dollar $0.52

So, nominal cost of hedging for 100000 NZ$ =100000*0.52=$52000

Expected value of Additional cost of Hedging =Probability*Cost of hedging =$2750

Probability of gain from hedging is only 25% and loss is 75%,

So hedging is not advisable.

Possible value of NZ $ in 180 days ($) Probability Nominal Cost of Hedging 100000NZ $($) Remains Unhedged($)=NZ $100000*Coloumn 1 Cost of Hedging(Nominal cost- Unhedge) Expected additional cost of Hedging = probability *Cost of hedging 0.40 5% 52000 40000 12000 600 0.45 10% 52000 45000 7000 700 0.48 30% 52000 48000 4000 1200 0.50 30% 52000 50000 2000 600 0.53 20% 52000 53000 (1000) (200) 0.55 5% 52000 55000 (3000) (150) 21000 2750

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