Question
A company in Europe namely Eurax Ltd. just sell a second-hand supercomputer to XTZ Ltd. for $30 million payable in six months. Eurax is concerned
A company in Europe namely Eurax Ltd. just sell a second-hand supercomputer to XTZ Ltd. for $30 million payable in six months. Eurax is concerned with the euro proceeds and the company would like to avoid the exchange risk. Based on the following information: Spot exchange rate [$/] : Six-month forward exchange rate [$/]: Eurax can buy a six-month put option on U.S. dollars with a strike price of 0.95/$ for a premium of 0.02 per U.S. dollar. Currently, six-month interest rate is [%] in the euro zone and [%] in the U.S. a. Explain with calculations to show how Eurax can create a guaranteed euro proceeds from the sale if the company decides to hedge using a forward contract. b. If Eurax decides to hedge using money market instruments, what action does Eurax need to take? What would be the guaranteed euro proceeds from the sale in this case? c. If Eurax decides to hedge using put options on U.S. dollars, what would be the expected euro proceeds from the sale? Assume that Eurax regards the current forward exchange rate as an unbiased predictor of the future spot exchange rate. d. At what future spot exchange rate do you think Eurax will be indifferent between the option and money market hedge? Data sources Interest rates: https://data.worldbank.org/indicator/FR.IN
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