Suppose that you (i.e., company XYZ) are a US-based importer of goods from Canad

Question

Suppose that you (i.e., company XYZ) are a US-based importer of goods from Canada. You expect the value of the Canada to increase against the US dollar over the next 6 months. You will be making payment on a shipment of imported goods (CAD100,000) in 6 months and want to hedge your currency exposure. The US risk-free rate is 5% and the Canada risk-free rate is 4% per year. The current spot rate is $1.25/CAD, and the 6-month forward rate is $1.3/CAD. You can also buy a 6-month option on Canadian dollars at the strike price of $1.4 /CAD for a premium of $0.10/CAD.

If XYZ wants to hedge the transaction exposure using forward, XYZ should enter a ________ position in a forward contract of CAD 100,000 due in six months.

Explanation / Answer

He should enter into a LONG position of forward contract and purchase the contract to hedge its position.

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