FIN 4331 Exam #2
An investor believes that the price of a stock, say IBM's shares, will increase in the next 60 days. If the investor is correct, which combination of the following investment strategies will show a profit in all the choices? (i) buy the stock and hold it for 60 days (ii) buy a put option (iii) sell (write) a call option (iv) buy a call option (v) sell (write) a put option
(i), (iv), and (v)
Your U.S. firm has a £100,000 payable with a 3-month maturity. Which of the following will hedge your liability?
Buy the present value of £100,000 today at the spot exchange rate, invest in the U.K. at i£., Buy a call option on £100,000 with a strike price in dollars., Take a long position in a forward contract on £100,000 with a 3-month maturity.
XYZ Corporation, located in the United States, has an accounts payable obligation of ¥750 million payable in one year to a bank in Tokyo. Which of the following is not part of a money market hedge?
Buy the ¥750 million at the forward exchange rate.
Suppose the futures price is below the price predicted by IRP. What steps would a speculator take to attempt to profit?
Go long in the futures contract.
For European currency options written on euro with a strike price in dollars, what is the effect of an increase in the exchange rate S($/€)?
Increases the value of calls, decreases the value of puts ceteris paribus
Three days ago, you entered into a futures contract to sell €62,500 at $1.50 per €. Over the past three days the contract has settled at $1.50, $1.52, and $1.54. How much have you made or lost?
Lost $0.04 per € or $2,500
Which of the following does not describe a futures contract?
Traded by bank dealers via a network of telephones and computerized dealing systems.
Yesterday, you entered into a futures contract to buy €62,500 at $1.50 per €. Suppose the futures price closes today at $1.46. How much have you made/lost?
You have lost $2,500.00.
An "option" is
a contract giving the owner (buyer) of the option the right, but not the obligation, to buy (call) or sell (put) a given quantity of an asset at a specified price at some time in the future.
Buying a currency option provides
a flexible hedge against exchange exposure., limits the downside risk while preserving the upside potential., a right, but not an obligation, to buy or sell a currency.
If you owe a foreign currency denominated debt, you can hedge with
a long position in a currency forward contract, or buying the foreign currency today and investing it in the foreign county.
To hedge a foreign currency payable,
buy call options on the foreign currency.
The most direct and popular way of hedging transaction exposure is by
currency forward contracts.
The choice between a forward market hedge and a money market hedge often comes down to
interest rate parity.
A U.S. firm has sold an Italian firm €1,000,000 worth of product. In one year the U.S. firm gets paid. To hedge, the U.S. firm bought put options on the euro with a strike price of $1.65. They paid an option premium $0.01 per euro. Assume the one-year dollar interest rate is 6.1% and at maturity, the exchange rate is $1.60,
the firm will realize $1,640,000 on the sale net of the cost of hedging.
Transaction exposure is defined as
the sensitivity of realized domestic currency values of the firm's contractual cash flows denominated in foreign currencies to unexpected exchange rate changes.
The "open interest" shown in currency futures quotations is
the total number of long or short contracts outstanding for the particular delivery month.
Comparing "forward" and "futures" exchange contracts, we can say that
their major difference is in the way the underlying asset is priced for future purchase or sale: futures settle daily and forwards settle at maturity, and a futures contract is traded on an organized exchange, while a forward contract is tailor-made by an international bank for its clients and is traded OTC.