Dell is selling 20,000 units in Europe at an average price of €1,700 per unit. B
ID: 2802859 • Letter: D
Question
Dell is selling 20,000 units in Europe at an average price of €1,700 per unit. Both the spot and forward exchange rates are $1.20/€. The cost of each unit in dollars is $1,500 per unit. The elasticity of demand for Dell computers in Europe is = 1.5.
1. Now consider a depreciation of Euro (relative to US dollar) from $1.2/€ to $1.08/€ and assume zeo passthrough. What is Dell's dollar profit exposure and how to hedge it using forward?
a. $45 million, buy $45million forward
b. €45 million, sell €45million forward
c. $34 million, buy $20 million forward
d. €34 million, sell €34 million forward
2. What is the delta for Dell's profit assuming zero passthrough?
a. 0
b. 2.35
c3.78
d.3.65
Explanation / Answer
Old exchange rate
R1 = 20000*1700*1.2 = 40.8 million $
C1 = 20000*1500 = 30 million
P1 = 40.8 - 30 = 10.8
new exchange rate
R2 = 20000*1700*1.08 = 36.72 million $
C2 = 20000*1500 = 30 million
P2 = 36.72 - 30 = 6.72
Exposure for dollar profits = (6.72 - 10.8) / (1.08-1.20) = 34 Euro million
Sell 34 Euro million in forward market
Option D
2)
Delta for Dell’s dollar Profit = ((6.72-10.8)/10.8) / ((1.08-1.2)/1.2)
= 3.78 (Option C)
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