The American Company (AC), a U.S. based car manufacturer, trades mainly with the German Company (GC), a German based car seller, and receive their money in Euro. On 1st of January 2020, AC agrees to sell 25,000,000 worth of cars to GC and the receive the whole amount in Euros on delivery date on 1st of July 2020. The AC has forecasted depreciation of the Euro () relative to the US Dollar ($). The AC is considering using option market in order to cover the company's position without sacrificing a possible profit from favourable movement of the U.S. dollar. Call and put options on /$ are traded with a contract size of 312,500. The price of these options is quoted in US cents per Euro. The premium on July call with an exercise price of $1.40/ is US 2/ and the premium on July put with an exercise price of $1.35 is US 1.5/. On 1st of January 2021, the spot rate is $1.25 / and the annual interest rate in the US is 5% and the annual interest rate in Germany is 6%. Assume the U.S. dollar as your home currency. a. If the AC did not hedge its exposure, briefly explain whether and why the AC would gain or lose from appreciation of the Euro relative to the U.S. dollar. If the spot rate on 1st of July 2020 (delivery date), is $1.35/, how much the AC will gain or lose? [10 marks] b. How many contracts does AC need? How much using option contracts will cost the AC per contract? How much will be the total cost of using option contracts of the AC? [Hint: calculate the profit or loss relative to the spot price on July 15, 2020). [10 marks] c. If on July 1st, 2020 the spot price turns out to be $1.37/, would the AC exercise its options? How much will be the profit or loss of the AC because of taking a position in option? [10 marks) BST253 d. If on July 1st, 2020 the spot price turns out to be $1.30/, would the AC exercise its options? How much will be the profit or loss of the AC because of taking a position in option? [10 marks] e. If the Interest Rate Parity (IRP) and the put-call option interest parity hold, and on 1 January the premium on a 1 July call option with a strike price of $1.25/ is US$ 0.03/, what is the premium for the equivalent put? [10 marks]