Answer questions 11 and 12 based on the following problem. Problem: Suppose that a U.S. MNC...

Answer questions 11 and 12 based on the following problem.

Problem: Suppose that a U.S. MNC has a payable of EUR 10,000 due in three months. The current spot rate of EUR is USD 1.2000, the current 3-month forward rate of EUR is USD 1.1760, which is above the MNC’s own expected future spot rate of USD 1.1755. The current Americanstyle call option due in three months is USD 1.1750 and the current American-style put option due in three months is USD 1.1770. The strike price for both the call and put options is USD 1.1765, and the premium of each option is USD 0.0015 per unit. The future spot rate turns out to be USD 1.1800 on the due date. All other possible transaction costs are ignored.

11. Suppose that the MNC decides to purchase an American-style call option to hedge the future payable due in three months. Then the premium will total _______.

A) 15 US dollars.

B) 15 euros

C) 25 US dollars

D) 25 euros

12. If the MNC purchases __________ for the future EUR-denominated payable, it will need to prepare a financial fund of _________ for the EUR payment on the due date. Note that any option premium must be paid at the beginning of the decision horizon.

A) a call option; USD 11,750

B) a forward-purchase contract; USD 11,760

C) a put option; USD 11,800

D) all of the above

Solutions

Expert Solution

11 = B) 15 euros

Premium of each option is USD 0.0015 per unit. Require Euro 10,000. The current spot rate of EUR is USD 1.2000.

Requirement of Eure in Dollers = 10,000 * 1.2 = 12,000 Dollers

Total Premium to be paid in dollers = 12,000 * 0.0015 = 18 Dollers

Premium paid in dollers converted in Euri = 18 / 1.2 = 15 Euros

12 = D) all of the above

A) a call option; USD 11,750 = In this case MNC purchase call option due in three months for USD 1.1750. Total Euro require 10,000. On maturity MNC will have to purchase this 10,000 euro at predecided call rate USD 1.1750. Total USD will have to pay 11,750 eventhough spot rate USD 1.1800 is higher than it.

B) a forward-purchase contract; USD 11,760 = In this case MNC purchase 3-month forward rate of EUR for USD 1.1760. Total Euro require 10,000. On maturity MNC will have to purchase this 10,000 euro at predecided forward rate USD 1.1760. Total USD will have to pay 11,750 eventhough spot rate USD 1.1800 is higher than it.

C) a put option; USD 11,800 = In this case company purchase put for USD 1.1770. On due date spot rate is USD 1.1800. The put option purchase will exersize at 1.17700 and in addition MNC will have to additional USD 0.003 as spot rate is higher than Put option strike price. Total USD = 1.1770 + 0.003 = 1.1800 * 10000 = 11,800

ekkarill92 answered 9 months ago

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