Enviry Company, US based company has initiated biodegradable plastic by using agar

to make packaging products to save the environment. Agar is a seaweed-based material

used traditionally in Japanese culture, and the team at Enviry Company have used it to

manufacture an alternative to plastic, Agar Plasticity, with which they hope one day to

completely replace all plastic-based packaging.

Recently, in producing Agar Plasticity, the company has ordered sufficient amounts of

agars from Japanese supplier, AgarDe, which incurred cost of Yen 25,000,000 with two

months ahead on the delivery date.

The hedging strategies available are using options or futures contract. In this regard,

two call options, and two put options contracts are available (each option contract

represents Yen 12,500,000) as hedging approaches against the movement of Yen with

two months maturity. The current spot rate is $0.0093 per unit of Yen.

The first call options contract requires a premium of $0.004 per unit, and the exercise

price is 5 percent above the spot rate. Meanwhile, an alternative call options is available

with an exercise price of 10 percent above the spot rate, and the premium is $0.006 per

unit. As for put options contracts, the first put options offers exercise price of 4 percent

above the spot rate with a premium of $0.003 per unit, while the second put options

entails a premium of $0.007 per unit, with an exercise price of 11 percent above the

spot rate.

On the other hand, Enviry Company may choose futures hedge as an alternative hedge

instrument. The futures price of the contract for the two months maturity is $0.0098.

Questions:

i. Should AgarDe hedge its position in the above context? If yes, explain how. If no,

explain why.

ii. Assume that Enviry Company shares the market consensus of the expected future spot

rate equals to futures price of $0.0098.

Given this expectation, calculate the total payoff

as the results of the following strategy: -

a) Futures hedge

b) Options hedge (there are three possible outcomes of using option contracts)