Consider a U.S.-based company that exports goods to Switzerland. The U.S. Compan

Question

Consider a U.S.-based company that exports goods to Switzerland. The U.S. Company expects to receive payment on a shipment of goods in three months. Because the payment will be in Swiss francs, the U.S. Company wants to hedge against a decline in the value of the Swiss franc over the next three months. The U.S. risk-free rate is 2 percent, and the Swiss risk-free rate is 5 percent. Assume that interest rates are expected to remain fixed over the next six months. The current spot rate is $0.5974. Conduct the cash flow anlysis of the money market hedge.

Explanation / Answer

The risk to the U.S. company is that the value of the Swiss franc will decline and it will receive fewer U.S. dollars on conversion.

In order to hedge the risk, the company should sell Swiss francs forward

S0= $0.5974

T = 90/365

r = 0.02

rf (swiss risk free rate)= 0.05

No arbitrage price = (spot rate/(swiss risk free rate)^(T))*(US risk free rate)^T

=(.5974/(1.05)^t)*(1.02)^t = $ 0.5931

Related Questions

Navigate

• Browse (All)
• Browse C
• Subjects

Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.