A U.S. importer makes a purchase from a German firm in the amount of 21,000 euro

Question

A U.S. importer makes a purchase from a German firm in the amount of 21,000 euros. At the current spot rate of 0.75 euros per dollar, how much is this purchase in U.S. dollars? Next, consider that this U.S firm will not have to pay the German firm for 90 days and that the U.S. firm is concerned that the dollar might weaken over this 90-day period. Suppose the U.S. firm completes a forward hedge at the 90-day forward rate of 0.725 euros per dollar. If in 90 days the dollar weakens so that the spot rate is 0.70 euros per dollar, how much of a loss (in dollars) will the U.S. firm have avoided by hedging its exchange rate exposure?

Explanation / Answer

**since quotes are given is Indirect quote , so we will convert it in direct quote = ( 1/Indirect quote)

*Purchase in dollars = Euros purchased * spot rate

                             = 21,000 * (1/.75 )

                             = $ 28,000

2)loss or gain due to hedgine:

Payment to be made if hedging is done : = 21000 *(1/.725)

                                                            = $ 28,965.52

Payment to be made if no hedging is done = 21000 * (1/.70)

                                                              = 30,000

loss avoided de to hedging = 30,000 - 28965.52

                                        = $ 1034.48

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