Question
Suppose that Bechtel Group wants to hedge a bid on a Japanese construction project. Since the yen exposure is contingent on acceptance of its bid,
Suppose that Bechtel Group wants to hedge a bid on a Japanese construction project. Since the yen exposure is contingent on acceptance of its bid, Bechtel decides to buy a put option for the 15 billion bid amount rather than sell it forward. In order to reduce its hedging cost, however, Bechtel simultaneously sells a call option for 15 billion with the same strike price. Bechtel reasons that it wants to protect its downside risk on the contract and is willing to sacrifice the upside potential in order to collect the call premium.
a) Diagram Bechtels profits/losses on each contract (long put and short call).
b) Diagram Bechtels total profits/losses (both contracts jointly).
c) Comment on Bechtel's hedging strategy. Is Bechtel really protecting its downside risk? What if Bechtel loses its bid and the yen appreciates?
Step by Step Solution
There are 3 Steps involved in it
Step: 1
Get Instant Access to Expert-Tailored Solutions
See step-by-step solutions with expert insights and AI powered tools for academic success
Step: 2
Step: 3
Ace Your Homework with AI
Get the answers you need in no time with our AI-driven, step-by-step assistance
Get Started