A U.S. firm expects a cash outflow (payable) of 1,000,000 in six months. The current exchange rate is $1.225/. The U.S firm will have to buy pounds in six months (to fulfill the payable). Consider 3 possible spot prices in six months.

1. $1.32/

2. $1.24/

3. $1.16/

a) What kind of option, put or call, is appropriate to hedge with?

b) In which scenario(s) above (numbered 1, 2, and 3) will the firm exercise their option? (Assume an exercise price of $1.23/)

c) Which one scenario above (numbered 1, 2, and 3) does the firm hope will happen?