Refer to Instruction. Plains States chooses to hedge its transaction exposure in the forward market at the available forward rate. The payoff in 6 months will be

a. $1,750,000.

b. $1,950,000.

c. $2,025,000.

d. $2,070,000.

Instruction:

Plains States Manufacturing has just signed a contract to sell agricultural equipment to Boschin, a German firm, for euro 1,500,000. The sale was made in June with payment due six months later in December. Because this is a sizable contract for the firm and because the contract is in euros rather than dollars, Plains States is considering several hedging alternatives to reduce the exchange rate risk arising from the sale. To help the firm make a hedging decision you have gathered the following information.

The spot exchange rate is $1.40/euro

The six month forward rate is $1.38/euro

Plains States' cost of capital is 11%

The Euro zone borrowing rate is 9% (or 4.5% for 6 months)

The Euro zone lending rate is 7% (or 3.5% for 6 months)

The U.S. borrowing rate is 8% (or 4% for 6 months)

The U.S. lending rate is 6% (or 3% for 6 months)

December put options for euro 1,500,000; strike price $1.42, premium price is 1.5%

Plains States' forecast for 6-month spot rates is $1.43/euro

The budget rate, or the lowest acceptable sales price for this project, is $1,075,000 or $1.35/euro