"The Argentinean Peso special case"

GM in Argentina faces an important problem with the future announcement of the devaluation of ARS by the Argentinean government. The announcement is expected for January 2002. GM Financial Analysts expect the following probability distribution of ARS/USD during the next 3 months.

ARS/USD

Probability

1

5%

1,2

25%

1,4

60%

1,5

10%

Probability distribution of ARS/USD predictions, results from, among others, some Argentinean money market data during the following 3 months

Discount Rate

3%

Expected Inflation

7%

Risk premium

10%

GM Argentina

The Argentinean Branch has ARS as function currency and is deeply integrated into the Argentinean economy. It has the following investments as Fixed assets:

Property and equipments (Fixed Assets in ARS)

Land

35

Buildings and improvements

215

Equipements

115

Intangible assets

5

GM Argentina counts some current assets/liabilities in the foreign currency USD. Exhibit 11 presents GM Argentina balance Sheet, Monetary Assets/liabilities denominated in ARS and USD, as of September 30, 2001.

Hedging

The Argentinean Branch has several ways to hedge its foreign currency exposure:

1. Forward Contract with 3-month maturity (Forward Rate: 1,2)
2. Call Option with 3-month maturity:
3. Exercise Price: 1,15
4. Premium 5% of ARS total amount
5. Money Market: 3-month interest rate in USA 2%

Questions:

1. Measure the impact of ARS devaluation on the Shareholder's Equity if the Argentinean Government devaluate ARS from 1 to 2 USD.
2. If GM Argentina should hedge the USD foreign currency exposure, which hedging tool is appropriate given the uncertainty about the ARS devaluation.