Q4) The effective annual euro-denominated interest rate is 1.5% p.a. and the dollar-denominated rate is 3% p.a.

The spot exchange rate is $0.85/.

A dollar-based company has a 3-year 1.5% p.a. (annually compounded) euro-denominated bond with 100 par value and 100 price. They want to guarantee the dollar value of the payments.

Since the firm will make debt payments in euros, it buys the euro forward to eliminate currency exposure. Please complete the following table and prove that hedging does not change the value of the debt.

Year	Unhedged Euro Cash Flow	Forward Exchange Rate	Hedged Dollar Cash Flow
1		0.8626
2		0.8753
3		0.8882

Notes:

1) At the end of each year, the firm is liable to pay a coupon of 1.5% on 100 par value (i.e. = 1.5).

2) To prove hedging does not change the value of the debt, you should demonstrate the present value of the hedged cash flows is approximately equal to the price of the bond.