Use the following information for questions 8-15 If ih = 8%, if = 6%, S-$1.52/E,

Question

Use the following information for questions 8-15 If ih = 8%, if = 6%, S-$1.52/E, and f360-$1.55/£ How much you need to invest? And Where? How much you need to borrow? And Where? Hedging Account Payables: 8) If you use the Money Market to hedge a £100,000 A/P exposure, what are steps? 9) What is the cost of the Money Market Hedge? 10)If you use the forward market to hedge, will you BUY or SELL the Pounds forward? 11) What is the cost of the Forward Hedge? 12) Would you prefer to hedge the A/P in the forward market or the money market? Why? Hedging Account Receivables: 13)Rather than hedging a £100,000 A/P, assume that you want now to use the Money Market to hedge a £100,000 A/R exposure, what are steps? How much you need to borrow? And Where? How much you need to invest? And Where? 14)If you use the forward market to hedge, will you BUY or SELL the Pounds forward? 15) Would you prefer to hedge the A/R in the forward market or the money market? Why?

Explanation / Answer

8.) To hedge the exposure using money market hedge,

Amount that need to be invested in foreign market =GBP 100,000/(1+0.06) =GBP 94,339.62

Amount that need to be borrowed in domestic market =$1.52 x 94,339.62 =$143,396.23

9.) Cost of Money Market Hedge =$143,396.23 x 1.08 =$154,867.92

10.) Using the Forward Contract, Pounds will be bought as the payment has to be made in future in foreign currency.

11.) Cost of Forward Hedge =$ 1.55 x 100,000 =$155,000

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