Question

Considering the calculations you have done so far, you need to attend to a number of import and export transactions for goods that companies in the United States expressed interest in.

The first transaction is for the import of good quality wines from Australia, since a retail liquor trading chain customer in the United States, for who you have been doing imports over the past five years has a very large order this time. The producer in Australia informed you that the current cost of the wine that you want to import is AUD$2,500,000. The wine in Australia can be shipped to the United States immediately but you have three months to conduct payment.

The second transaction is for the export of 3d printers manufactured in the U.S.A. The country where it will be exported to is Britain. The payment of £2,500,000 for the export to Britain will be received nine months from now.

You consider different transaction hedges, namely forwards, options, and money market hedges.

You are provided with the following quotes from your bank, which is an international bank with branches in all the countries:

Forward rates:

Currencies	Spot	3 month (90 days)	6 month (180 days)	9 month (270 days)	12 month (360 days)
$/£	1.30009	1.30611	1.31217	1.31825	1.32436
$/AUD	0.72390	0.72516	0.72641	0.72766	0.72892

Bank applies 360 day-count conventions to all currencies (for this assignment apply 360 days in all calculations).

Annual borrowing and investment rates for your company:

Country	3 month rates		6 months rates		9 month rates		12 month rates
	Borrow	Invest	Borrow	Invest	Borrow	Invest	Borrow	Invest
United States	2.687%	2.554%	2.713%	2.580%	2.740%	2.607%	2.766%	2.633%
Britain	0.786%	0.747%	0.794%	0.755%	0.801%	0.762%	0.809%	0.770%
Australia	1.973%	1.875%	1.992%	1.894%	2.012%	1.914%	2.031%	1.933%

Bank applies 360 day-count convention to all currencies. Explanation – e.g. 3 month borrowing rate on $ = 2.687%. This is the annual borrowing rate for 3 months. If you only borrow for 3 months the interest rate is actually 2.687%/4 = 0.67175% (always round to 7 decimals when you do calculations). Furthermore, note that these are the rates at which your company borrows and invests. The rates are not borrowing and investment rates from a bank perspective.

Option prices:

Currencies	3 month options				6 month options
	Call option		Put option		Call option		Put option
	Strike	Premium in $	Strike	Premium in $	Strike	Premium in $	Strike	Premium in $
$/£	$1.29961	$0.00383	$1.31268	$0.00383	$1.30564	$0.00381	$1.31876	$0.00381
$/AUD	$0.72155	$0.00690	$0.72843	$0.00690	$0.72279	$0.00688	$0.72969	$0.00688

Bank applies 360 day-count convention to all currencies. (Students also have to apply 360 days in all calculations). Option premium calculations should include time value calculations based on US $ annual borrowing interest rates for applicable time periods e.g. 3 month $ option premium is subject to 2.687%/4 interest rate.)

a. Calculate the cost of money market hedges for the import from Australia (Complete Table 3 on the separate answer sheet).

b. Determine the option types that you will consider based on the exchange rate quotes provided by your bank. Remember we will long or short the base currencies (in this case study the currencies that are not $) and the FV of premium cost is based on the borrowing cost of $ for the time period of the option. For example if it is a 3 month option, then the interest rate that should be applied is United States 3 month borrowing rate of 2.687%/4 = 0.67175%). Calculate the total cost of using options as hedging instrument for the imports from Australia (Complete Table 4 on the separate answer sheet).

Table 3: Australia import cost with money market hedge:

	PV of foreign currency to be invested	Converted at spot to $ and to be borrowed	$ amount to be repaid after period	Exchange rate locked in with transaction
Show answers in this row:
Show your workings in the columns below the answers (Use 7th decimal rounding in workings)

Table 4: Australia import cost with option hedge:

	Type of option (Call or put?)	Total premium cost for import	Total cost of option in $ (Strike plus premium)	Option hedge breakeven exchange rate
Show answers in this row:
Show your workings in the columns below the answers (use 7th decimal rounding in workings)				Total cost of option in $/ Total AUD value of transaction

Answer 1

		PV of foreign currency to be invested	Converted at spot to $ and to be borrowed	$ amount to be repaid after period	Exchange rate locked in with transaction
Show answers in this row:	AUD 2,488,335.9254	$        1,801,306.3764	$                    1,813,406.6520	0.72536
Show your	Applicable Discount rate for 3 months period = (1.875%/4) =0.46875%                          .                                                      Therefore,the PV of AUD to be invested in Australia for 3 months = 2,500,000 x(1/(l+0.0046875))= 2,488,335.9253499 AUD	Applicable exchange rate for sport = 0.72390                                    .                                        Threfore, Converted AUD to $ = AUD 2,488,335.9254 x 0.72390 = $1,801,306.3763971	Applicable Premium rate for 3 months period = (2.687%/4) =0.67175%                                        .                                                      Therefore,the Future value of $ to be borrowed in US for 3 months = $1,801,306.3764 x(1+0.0067175)= $1,813,406.6519835	Effective Exchange rate in money market hedge = $1,813,406.6520 / AUD 2,500,000 = 0.7253627
workings in
the columns
below the
answers (Use
7th decimal
rounding in
workings)

	Type of option (Call or put?)	Total premium cost for import	Total cost of option in $ (Strike plus premium)	Option hedge breakeven exchange rate
Show answers in this row:	Call Option Strike Price $0.72155	$                         17,365.8769	Total outflow = $1,821,240.8768750 or Per AUD Payment = $0.7285	$                          0.7285
Show your workings in the columns below the answers (use 7th decimal rounding in workings)	Buy the call option strike price $0.72155 @ premium of $0.00690 as the importer require to pay Aud after 3-Months so call option is also after 3 -Months	Total cost of premium is premium per AUD is $0.00690 so total cost = AUD 2,500,000 x $0.00690 = $17,250                                                     .                                                       Here premium is cost but we require to pay premium today so interest on that is also cost for impotor so cost = Premium x (1+interest for 3 months) = $17,250 (1+0.0067175) = $ 17,365.8768750                                      .                                            Per AUD premium = $0.00690 x (1+0.0067175) = 0.0069464	$ Out flow = AUD 2,500,000 x $0.72155 =$1,803,875                      Premium = $17,365.8768750             Total out flow = $1,803,875 + $17,365.8768750 = $1,821,240.8768750              Cost = Strike + Premium cost = $0.72155 + 0.0069464 = 0.7284964	Total cost of option in $/ Total AUD value of transaction= $1,821,240.8769 / AUD 2,500,000 = 0.7284964

In option table not properly define what require so i put data best of my understanding if any help require please comment i will help you.

Here option table is also not proper so i am taken below table as i understand for calculation.