UA purchased an aircraft from Airbus and was billed 30 million payable in one year. UA is concerned with the USD costs from international sales and would like to control exchange risk. The current spot exchange rate is $1.05/ and one-year forward exchange rate is $1.10/ at the moment. UA can buy a one-year option on euro with a strike price of $1.12/ for a premium of $0.02 per euro. Currently, the annual interest rate is 5% in the euro zone and 6% in the U.S.

This is an ACCOUNTS PAYABLE case for UA.

If UA wants to hedge the transaction exposure using forward, UA should enter a LONG position in a forward contract of 30 million due in one year.

If UA enters a forward euro contract today, the guaranteed dollar cost for this euro obligation in one year should be $33 million

If UA wants to hedge the transaction exposure using money market hedge, UA should buy PV of euro today using USD, and deposit euro in the bank and sit on it.

If UA uses MMH, the guaranteed dollar cost today should be $31.800million

If UA wants to hedge the transaction exposure using option hedge, UA should BUY A CALL OPTION

If UA hedges the exposure using an option hedge, total option premium: $.600million will be paid today. The option premium will grow to $.636million in one year at the US interest rate. In one year, if the spot price is $1.1 per euro, the option is(in/out) of the money. So, UA will buy 30 million euro at the price of $ 1.100per euro, which equals to a total cost of $33million. After the option premium, the total (net) dollar costs in one year is $33.636million.

At what future spot exchange rate do you think UA will be indifferent between the option and forward hedge?

Answer: $1.1600/.

Review this for me. All of my answers are in bold. Let me know if I am off track,