Question
Q2: Short Form Decision-Making Situations: Situation I: Consider that Alpha Farms Inc., is expected to harvest 4 million pounds of cotton in August. On Jun
Q2: Short Form Decision-Making Situations: Situation I: Consider that Alpha Farms Inc., is expected to harvest 4 million pounds of cotton in August. On Jun 15, 2020 the spot price of cotton is quoted USD 0.81 per pound. However, the farmer expects that the prices will decline to its 52 weeks low of USD 0.82 per pound by August with bumper crop expected to be available in international markets. Three months future of cotton is trading at USD 0.84 per pound. Required: a) Assuming Alpha is your client in Treasury. What possible suggestion you would have given to them at that point in time? Give cogent reasons to support your view point. b) Consider that Alpha decides to hedged the price through buying cotton futures. Calculate the opportunity gain/(loss) assuming price declines to: (i) 52 Weeks low; (ii) increases to USD 0.86 per pound in August 2020. Situation II: Consider a situation where an international Bank operating in Pakistan has deposits that represent floating-rate liabilities and are mostly short term in nature i.e., up to 1 year, whereas Banks assets are primarily loans to MNCs and large local corporates and Medium Enterprises which are considered as emerging markets in foreign Bank. Most loans carry floating rate interest based off KIBOR benchmarks except for consumer assets (5% of the loan book) which are fixed rate with IRR in range of 20-22%. Required: a) Is there any interest rate risk? b) Describe if there is a need to hedge interest rate risk. Why or why not? Situation III: Consider a 3 against 6 FRA on a notional principle amount of USD 10 million. The FRA rate is 6%. The FRA settlement date is after 3 months (90 days) and the settlement is based on a 90 days LIBOR. Assume that on the settlement date, the actual 90-days LIBOR is 8%. Required: a) Calculate FRA payment on the settlement date.
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