5. You own a US company with borrowings from Switzerland. Over the next few mont

Question

5. You own a US company with borrowings from Switzerland. Over the next few months, your loan repayment of CHF 50 million is due. Given the foreign exchange market movements, you would like to minimise the impact on your cash outflow. Based on the following data, devise a suitable strategy. Evaluate your chosen strategy against suitable alternatives for a range of expected future spot rates. Spot rate 0.9888 CHF/USD 3 month forward rate 3 month future rate0.9796 CHF/USD Option Premia: Strike Price 0.9850 0.9900 Call Option 0.0108 0.0087 Put Option 0.0146 0.0175 Each option contract has a size of 125,000 Swiss Francs.

Explanation / Answer

Forward cover:

Forward rate after 3 months=0.9796 CHF/USD

Exposure that is payable=CHF 50 million

Outflow in USD using forward cover=50/0.9796=51.04 million USD

Options cover:

Payable is in USD that is we would like to hedge against USD rising. Accordingly we should buy a call option having a strike price of 0.99.

Size of contract=1,25,000 CHF that is 0.125 million CHF.

So, number of options needed=50/0.125=400 options

Premium paid=400*0.0087*0.125=0.87 million CHF

After 3 months future rate is 0.9796 CHF/USD,so we will exercise the call option at 0.99 CHF/USD.

Outflow from payables=50/0.99=50.51 million CHF

Net outflow=50.51+0.87=51.38 million CHF

Advice: Hedging through forward rates is preferred because outflow is lower in that case.

Related Questions

Navigate

• Browse (All)
• Browse 5
• Subjects

---

---

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