Money Corp. frequently uses a forward hedge to hedge its Malaysian ringgit (MYR)

Question

Money Corp. frequently uses a forward hedge to hedge its Malaysian ringgit (MYR) receivables. For the next month, Money has identified its net exposure to the ringgit as being MYR1,500,000. The 30-day forward rate is $.23. Furthermore, Money's financial center has indicated that the possible values of the Malaysian ringgit at the end of next month are $.20 and $.25, with probabilities of .30 and .70, respectively. Based on this information, the revenue from hedging minus the revenue from not hedging receivables is____.

Explanation / Answer

Step-1: Calculating the rate when hedging the securities and rate when not hedging the securities.

When not hedging the securities - Expected Value = (.20*.3)+(.25*.7)= $ .235

When Hedging the securities- Forward Rate = $ .230

If money corporation has not hedged then Money corp. will receive amount on prevailing expected price.

If money corporation has hedged then Money corp. will receive amount on forward rate as entered into.

total net exposure is MYR 1,500,000

Step-2: calculation of revenue from hedging and not hedging the receivable.

Revenue from hedging the receivable (A) = Net exposure* Forward rate

= 1,500,000*.23

= $ 345,000

Revenue from not hedging the receivable (B) = Net Exposure* Expected rate

= 1,500,000*.235

= $ 352,500

Thus, Revenue from hedging minus revenue from not hedging= A-B

=345,000-352,500

= $ (-) 7,500

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