Chronos Time Pieces of Boston exports watches to many countries, selling in local currencies to stores and distributors. Chronos prides itself on being financially conservative. At least 70% of each individual transaction exposure is hedged, mostly in the forward market, but occasionally with options. Chronos’ foreign exchange policy is such that the 70% hedge may be increased up to a 120% hedge if devaluation or depreciation appears imminent. Chronos has just shipped to its major North American distributor. It has issued a 90-day invoice to its buyer for €1,560,000. The current spot rate is €1.2224 = €1.00, and the 90-day forward rate is €1.2270 = €1.00. Chronos’s treasurer, Manny Hernandez, has a very good track record in predicting exchange rate movements. He currently believes the euro will weaken against the dollar in the coming 90 to 120 days, possibly to around €1.16 = €1.00.

a. Evaluate the hedging alternatives for Chronos if Manny is right (Case 1: €1.16 = €1.00) and if Manny is wrong (Case 2: €1.26 = €1.00). What do you recommend?

b. What does it mean to hedge 120% of a transaction exposure?

c. What would be considered the most conservative transaction exposure management policy by a firm? How does Chronos compare?