Blue Creek Industrial of Atlanta purchased automated machinery from Sydney Manufacturing of Australia for : A$5,000,000...

Blue Creek Industrial of Atlanta purchased automated machinery from Sydney Manufacturing of Australia for : A$5,000,000 with payment due in 6 months. The forecasting department of the firm expects the spot rate in 6 months to be $0.7015/A$ The following quotes are available:

Six month investment rate on US$ - 1.20% per annum

Loan Rate on US$ - 4.10% per annum

Six month investment rate on A$2.25% per annum

Loan Rate on A$ - 5.00% per annum

Spot exchange rate : Bid- $0.7050/A$ Ask- $0.7058/A$

Six month forward rate: Bid- $0.7004/A$ Ask- $0.7018/A$

Six month call option at A$5,000,000 at an exercise price of $0.7100/A$ and a 1.80% of spot ask premium.

Blue Creek’s cost of capital is 10% and it wishes to minimize the dollar cost of this PAYABLE. The CFO has informed your department that the company is currently in a low cash position and if a money market hedge is used, a US dollar loan would be necessary. However, the option premium should be carried forward at the cost of capital.

What are the costs from the money market hedge? Please show all work
What are the costs from the forward market hedge? Please show all work

Expert Solution

	Trasaction amount	500000 A$
	Forecast 6 M spot rate	$0.7015/A$

	Investment and loan rates
		A$	$
	Investment rate	2.25%	1.20%
	Loan Rate	5%	4.10%

	Spot rate	0.7050-0.7058 $/A$
	6M forward Rate	0.7004-0.7018 $/A$

Option 1:	CALL Option
	Call Premium	0.0127044
	Premium $	6352.2	USD
	Amount payable	355000
	total payable	361352.2

Option2:	Loan in $ and invest in A$:
	Loan interest rate in US	4.10%
	Invetsment rate in Sydney	2.25%
	A$ required to invest in Sydney	500000(1/1.01125)	494437.6
	$ Amount required with current spot rate		348578.5
	Interest on loan amount		7145.859
	TOTAL PAYABLE		355724.4

Option3:	Invest in $ now and pay after 6 months
	Amount $ required after 6 months to repay amount	350750
	Investment rate in US	348658
	Cost of capital	17433
	TOTAL EXPESES	366091

	As compare to all optiosns Option 2 would be preferable

jeff jeffy answered 2 years ago

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