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You plan to visit Lugano, Switzerland, in three months to attend an international finance conference. You expect to incur a total cost of SF5, 500
You plan to visit Lugano, Switzerland, in three months to attend an international finance conference. You expect to incur a total cost of SF5, 500 for lodging, meals and transportation during your stay. As of today, the spot exchange rate is S0.60/SF and the three-month forward rate is $0.69/SF. You can buy the three-month call option on SF with an exercise price of $0.64/SF for the premium of $0.05 per SF. Assume that your expected future spot exchange rate is the same as the forward rate. The three-month interest rate is 8 percent per annum in the United States and 4 percent per annum in Switzerland. Calculate your expected dollar cost of buying SF5, 500 if you choose to hedge by a call option on SF. Calculate the future dollar cost of meeting this SF obligation if you decide to hedge using a forward contract. At what future spot exchange rate will you be indifferent between the forward and option market hedges? Illustrate the future dollar cost of meeting the SF payable against the future spot exchange rate under both the options and forward market hedges
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