Advantages and disadvantages to a firm of financial hedging

Assignment Help Financial Management

Reference no: EM13706085

Question 1: Discuss the determinants of operating exposure.

Question 2: What are the advantages and disadvantages to a firm of financial hedging of its operating exposure compared to operational hedges (such as relocating its manu-facturing site)?

Question 3: Discuss the advantages and disadvantages of maintaining multiple manufacturing sites as a hedge against exchange rate exposure.

Question 4: Suppose that you hold a piece of land in the city of London that you may want to sell in one year. As a U.S. resident, you are concerned with the dollar value of the land. Assume that if the British economy booms in the future, the land will be worth £2,000, and one British pound will be worth $1.40. If the British economy slows down, on the other hand, the land will be worth less, say, £1,500, but the pound will be stronger, say, $1.50/£. You feel that the British economy will experience a boom with a 60 percent probability and a slowdown with a 40 percent probability.

a. Estimate your exposure (b) to the exchange risk.

b. Compute the variance of the dollar value of your property that is attributable to exchange rate uncertainty.

c. Discuss how you can hedge your exchange risk exposure and also examine the consequences of hedging.

Question 5: A U.S. firm holds an asset in France and faces the following scenario:


	State 1	State 2	State 3	State 4
Probability	25%	25%	25%	25%
Spot rate	$1.201€	$1.10/€	$1.00/E	$0.901€
P*	€1,500	€1,400	€1,300	€1,200
	$1,800	$1,540	$1,300	$1,080

In the above table, P" is the euro price of the asset held by the U.S. firm and P is the dollar price of the asset.

a. Compute the exchange exposure faced by the U.S. firm.

b. What is the variance of the dollar price of this asset if the U.S. firm remains unhedged against this exposure?

Question 6: What are the advantages of a currency options contract as a hedging tool compared with the forward contract?

Question 7: Suppose your company has purchased a put option on the euro to manage exchange exposure associated with an account receivable denominated in that cur-rency. In this case, your company can be said to have an "insurance" policy on its receivable. Explain in what sense this is so.

Question 8: IBM purchased computer chips from NEC, a Japanese electronics concern, and was billed V250 million payable in three months. Currently, the spot exchange rate is V1051$ and the three-month forward rate is V1003. The three-month money market interest rate is 8 percent per annum in the United States and 7 percent per annum in Japan. The management of IBM decided to use a money market hedge to deal with this yen account payable.

a. Explain the process of a money market hedge and compute the'dollar cost of meeting the yen obligation.

b. Conduct a cash flow analysis of the money market hedge.

Question 9: Boeing just signed a contract to sell a Boeing 737 aircraft to Air France. Air France will be billed €20 million payable in one year. The current spot exchange rate is $1.05/€ and the one-year forward rate is $1.10/e. The annual interest rate is 6 percent in the United States and 5 percent in France. Boeing is concerned with the volatile exchange rate between the dollar and the euro and would like to hedge exchange exposure.

a. It is considering two hedging alternatives: sell the euro proceeds from the sale forward or borrow euros from Credit Lyonnaise against the euro receivable. Which alternative would you recommend? Why?

b. Other things being equal, at what forward exchange rate would Boeing be indifferent between the two hedging methods?

Reference no: EM13706085

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