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B. Halliburton Brothers International is a company located in LA and runs business around the world. Exchange risk is one important risk in its business
B. Halliburton Brothers International is a company located in LA and runs business around the world. Exchange risk is one important risk in its business and an important job of the CFO. The financial manager is considering using the futures contracts traded by the CME Group to hedge its Australian dollar Iexposure. Define r as the interest rate (all maturities) on the U.S. dollar and rf as the interest rate (all maturities) on the Australian dollar. Assume that r and rf are constant and that the company uses a contract expiring at time T to hedge an exposure at time t (T>t). (a) Show that the optimal hedge ratio is e(-) (30%) (b) Show that, when t is one day, the optimal hedge ratio is almost exactly So/Fo where So is the current spot price of the currency and Fo is the current futures price of the currency for the contract maturing at time T. (10%) (c) Show that the company can take account of the daily settlement of futures contracts for a hedge that lasts longer than one day by adjusting the hedge ratio so that it always equals the spot price of the currency divided by the futures price of the currency. (30%) B. Halliburton Brothers International is a company located in LA and runs business around the world. Exchange risk is one important risk in its business and an important job of the CFO. The financial manager is considering using the futures contracts traded by the CME Group to hedge its Australian dollar Iexposure. Define r as the interest rate (all maturities) on the U.S. dollar and rf as the interest rate (all maturities) on the Australian dollar. Assume that r and rf are constant and that the company uses a contract expiring at time T to hedge an exposure at time t (T>t). (a) Show that the optimal hedge ratio is e(-) (30%) (b) Show that, when t is one day, the optimal hedge ratio is almost exactly So/Fo where So is the current spot price of the currency and Fo is the current futures price of the currency for the contract maturing at time T. (10%) (c) Show that the company can take account of the daily settlement of futures contracts for a hedge that lasts longer than one day by adjusting the hedge ratio so that it always equals the spot price of the currency divided by the futures price of the currency. (30%)
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