IF - Chapters 9-12 Review

: 1 62. A U.S.-based MNC has a subsidiary in Barbados that generates substantial net cash inflows denominated in Barbados dollars. Given this information, the MNC would ____ from a(n) ____ of the Barbados dollar. a. benefit; appreciation b. benefit; depreciation c. not benefit; appreciation d. none of the above

: A

: 1 65. Vada, Inc. exports computers to Australia invoiced in U.S. dollars. Its main competitor is located in Japan. Vada is subject to: a. economic exposure. b. transaction exposure. c. translation exposure. d. economic and transaction exposure.

: A

: 1 17. If interest rate parity exists and transactions costs are zero, the hedging of payables in euros with a forward hedge will ____. a. have the same result as a call option hedge on payables b. have the same result as a put option hedge on payables c. have the same result as a money market hedge on payables d. require more dollars than a money market hedge e. A and D

: C

: 1 21. If revenues and costs are equally sensitive to exchange rate movements, MNCs may reduce their economic exposure by restructuring their operations to shift the sources of costs or revenues to other locations so that: a. cash inflows exceed cash outflows in each foreign currency. b. cash outflows exceed cash inflows in each foreign currency. c. cash inflows match cash outflows in each foreign currency. d. none of the above

: C

: 1 26. An MNC is attempting to reduce its economic exposure by financing a portion of its business with loans in the foreign currency. If the foreign currency weakens, the MNC will need ____ of the foreign currency to cover the loan payment, while the MNC's foreign currency revenues will convert to ____ dollars. a. more; fewer b. more; more c. less; fewer d. less; more

: C

: 1 27. An MNC expects to sell fixed assets it utilizes in Europe in the distant future. In order to hedge the sale of these assets in the distant future, the MNC could create a(n) ____ that ____ the expected value of the assets in the future. a. asset; matches b. asset; exceeds c. liability; matches d. liability; is less than

: C

: 1 27. If an MNC has a net inflow in one currency and a net outflow of about the same amount in another currency, then the MNCs' transaction exposure is ____ if the two currencies are ____ correlated. a. high; positively b. low; negatively c. high; negatively d. none of the above

: C

: 1 30. The maximum one-day loss computed for the value-at-risk (VAR) method does not depend on: a. the expected percentage change in the currency for the next day. b. the standard deviation of the daily percentage changes in the currency over a previous period. c. the current level of interest rates. d. the confidence level used.

: C

: 1 34. In general, a firm that concentrates on local sales, has very little foreign competition, and obtains foreign supplies (denominated in foreign currencies) will likely ____ a(n) ____ local currency. a. be hurt by; appreciated b. benefit from; depreciated c. be hurt by; depreciated d. none of the above

: C

: 1 35. The ____ the percentage of an MNC's business conducted by its foreign subsidiaries, the ____ the percentage of a given financial statement item that is susceptible to translation exposure. a. greater; smaller b. smaller; greater c. greater; greater d. none of the above

: C

: 1 39. To hedge a ____ in a foreign currency, a firm may ____ a currency futures contract for that currency. a. receivable; purchase b. payable; sell c. payable; purchase d. none of the above

: C

: 1 39. ____ is (are) not a determinant of translation exposure. a. The MNC's degree of foreign involvement b. The locations of foreign subsidiaries c. The local (domestic) earnings of the MNC d. The accounting methods used

: C

: 1 40. A forward contract hedge is very similar to a futures contract hedge, except that ____ contracts are commonly used for ____ transactions. a. forward; small b. futures; large c. forward; large d. none of the above

: C

: 1 9. If Salerno Inc. desired to lock in a minimum rate at which it could sell its net receivables in Japanese yen but wanted to be able to capitalize if the yen appreciates substantially against the dollar by the time payment arrives, the most appropriate hedge would be: a. a money market hedge. b. a forward sale of yen. c. purchasing yen call options. d. purchasing yen put options. e. selling yen put options.

: D

Chapter 11—Managing Transaction Exposure 1. Assume zero transaction costs. If the 90-day forward rate of the euro is an accurate estimate of the spot rate 90 days from now, then the real cost of hedging payables will be: a. positive. b. negative. c. positive if the forward rate exhibits a premium, and negative if the forward rate exhibits a discount. d. zero.

: D

: 1 15. Spears Co. will receive SF1,000,000 in 30 days. Use the following information to determine the total dollar amount received (after accounting for the option premium) if the firm purchases and exercises a put option: Exercise price Premium Spot rate Expected spot rate in 30 days 30-day forward rate a. b. c. d. e. $630,000. $610,000. $600,000. $590,000. $580,000. ($.61 ? $.02) ? SF1,000,000 = $590,000 = = = = = $.61 $.02 $.60 $.56 $.62

: D SOLUTION:

: 1 22. Subsidiary A of Mega Corporation has net inflows in Australian dollars of A$1,000,000, while Subsidiary B has net outflows in Australian dollars of A$1,500,000. The expected exchange rate of the Australian dollar is $.55. What is the net inflow or outflow as measured in U.S. dollars? a. $500,000 outflow. b. $500,000 inflow. c. $275,000 inflow. d. $275,000 outflow.

: D SOLUTION:

: 1 41. Celine Co. will need €500,000 in 90 days to pay for German imports. Today's 90-day forward rate of the euro is $1.07. There is a 40 percent chance that the spot rate of the euro in 90 days will be $1.02, and a 60 percent chance that the spot rate of the euro in 90 days will be $1.09. Based on this information, the expected value of the real cost of hedging payables is $____. a. ?35,000 b. 25,000 c. ?1,000 d. 1,000

: D SOLUTION:

: 1 78. If the net inflow of one currency is about the same amount as a net outflow in another currency, the firm will benefit if these two currencies are negatively correlated because the transaction exposure is offset. a. True b. False

: F

: 1 79. A purely domestic firm is never exposed to exchange rate fluctuations. a. True b. False

: F

: 1 79. To hedge a payable position with a currency option hedge, an MNC would write a call option. a. True b. False

: F

: 1 80. The transaction exposure of two inflow currencies is offset when the correlation between the currencies is high. a. True b. False

: F

: 1 81. Currency correlations are generally negative. a. True b. False

: F

: 1 83. If hedging projections cause a firm to believe that it will definitely be adversely affected by its transaction exposure, a currency option hedge is more appropriate than other methods. a. True b. False

: F

: 1 83. The maximum one-day loss estimated using the value-at-risk (VAR) method is independent of the confidence level used. a. True b. False

: F

: 1 84. The degree to which a firm's present value of future cash flows can be influenced by exchange rate fluctuations is referred to as transaction exposure. a. True b. False

: F

: 1 85. Most MNCs can completely hedge all of their transactions. a. True b. False

: F

: 1 85. Purely domestic firms are never affected by economic exposure. a. True b. False

: F

: 1 86. When a parent company tries to convince a subsidiary to hedge its transaction exposure, this is called leading. a. True b. False

: F

: 1 87. Firms with more foreign costs than foreign revenues will generally be favorably affected by a stronger foreign currency. a. True b. False

: F

: 1 88. Translation exposure affects an MNC's cash flows. a. True b. False

: F

: 1 89. Since forward contracts are easy to use for hedging, any exposure to exchange rate movements should be hedged. a. True b. False

: F

: 1 E[RCHp] = ?$35,000 ? 0.40 + $25,000 ? 0.60 = $1,000 43. If an MNC is hedging various currencies, it should measure the real cost of hedging in each currency as a dollar amount for comparison purposes. a. True b. False

: F

: 1 28. Long-term forward contracts are a possible way to hedge the distant sale of fixed assets in foreign countries, but they may not be available for many emerging market currencies. a. True b. False

: T

: 1 33. In general, it is more difficult to effectively hedge economic or translation exposure than to hedge transaction exposure. a. True b. False

: T

: 1 36. Under FASB 52, consolidated earnings are sensitive to the functional currency's weighted average exchange rate. a. True b. False

: T

: 1 37. A limitation of hedging translation exposure is that translation losses are not tax deductible, whereas gains on forward contracts used to hedge translation exposure are taxed. a. True b. False

: T

: 1 38. Sometimes the overall performance of an MNC may already be insulated by offsetting effects between subsidiaries and it may not be necessary to hedge the position of each individual subsidiary. a. True b. False

: T

: 1 38. The translation gain (or loss) is simply a paper gain (or loss). Conversely, the gain (or loss) resulting from a hedge strategy is a real gain (or loss). a. True b. False

: T

: 1 40. U.S.-based MNCs invoicing in Asian currencies and incurring expenses in Asian currencies were probably less affected by the weakness of Asian currencies than U.S.-based MNCs that invoice in Asian currencies but do not incur expenses in those currencies. a. True b. False

: T

: 1 43. Although forward contracts may reduce translation exposure at the expense of increasing transaction exposure, they are sometimes used to hedge translation exposure. a. True b. False

: T

: 1 43. One argument why exchange rate risk is irrelevant to corporations is that shareholders can deal with this risk individually. a. True b. False

: T

: 1 44. Because creditors may prefer that firms maintain low exposure to exchange rate risk, exchange rate movements may cause earnings to be more volatile, and because investors may prefer corporations to perform hedging for them, exchange rate risk is probably relevant. a. True b. False

: T

: 1 46. Since the results of both a money market hedge and a forward hedge are known beforehand, an MNC can implement the one that is more feasible. a. True b. False

: T

: 1 48. The Canadian dollar consistently appears to move almost independently of other currencies. That is it exhibits low correlations with the other currencies. a. True b. False

: T

: 1 49. U.S. exporters may not necessarily benefit from weak-dollar periods if foreign competitors are willing to reduce their profit margin. a. True b. False

: T

: 1 50. If the functional currencies for reporting purposes are highly correlated, translation exposure is magnified. a. True b. False

: T

: 1 52. A foreign subsidiary with more revenue than expenses denominated in a foreign currency will be favorably affected by appreciation of the foreign currency. a. True b. False

: T

: 1 52. If an MNC is extremely risk-averse, it may decide to hedge even though its hedging analysis indicates that remaining unhedged will probably be less costly than hedging. a. True b. False

: T

: 1 53. A company may become more exposed or sensitive to an individual currency's movements over time for several reasons, including a reduction in hedging, a greater involvement in the foreign country, or an increased use of the foreign currency. a. True b. False

: T

: 1 53. A money market hedge involves taking a money market position to cover a future payables or receivables position. a. True b. False

: T

: 1 53. Economic exposure represents any impact of exchange rate fluctuations on a firm's future cash flows and thus includes transaction exposure. a. True b. False

: T

: 1 54. In general, it is more difficult to effectively hedge economic or translation exposure than to hedge transaction exposure. a. True b. False

: T

: 1 54. Regression analysis cannot be used to assess the sensitivity of a company's performance to economic conditions because economic conditions are unpredictable. a. True b. False

: T

: 1 55. A high correlation between two currencies would be desirable for achieving low exchange rate risk if one is an inflow currency and the other is an outflow currency. a. True b. False

: T

: 1 55. To reduce economic exposure when a foreign currency has a greater impact on cash inflows, an MNC could reduce its level of foreign sales, increase its foreign supply orders, or restructure debt to increase debt payments in the foreign currency. a. True b. False

: T

: 1 56. Currency futures are very similar to forward contracts, except that they are standardized and are more appropriate for firms that prefer to hedge in smaller amounts. a. True b. False

: T

: 1 58. In general, translation exposure is larger with MNCs that have a larger proportion of earnings generated by foreign subsidiaries. a. True b. False

: T

: 1 58. Translation exposure results when an MNC translates each subsidiary's financial data to its home currency for consolidated financial statements. a. True b. False

: T

: 1 59. Implementing a forward or money market hedge to hedge translation exposure may increase transaction exposure. a. True b. False

: T

: 1 60. The VAR method presumes that the distribution of exchange rate movements is normal. a. True b. False

: T

: 1 62. If exchange rate movements are less volatile in the past than in the future, the estimated maximum expected loss derived from the VAR method will be underestimated. a. True b. False

: T

: 1 63. Some MNCs are subject to economic exposure without being subject to transaction exposure. a. True b. False

: T

: 1 63. The hedging of a foreign currency for which no forward contract is available with a highly correlated currency for which a forward contract is available is referred to as cross-hedging. a. True b. False

: T

: 1 64. If positions in a specific currency among an MNC's subsidiaries offset each other, the decision by one subsidiary to hedge its position in that currency would increase the MNC's overall exposure. a. True b. False

: T

: 1 64. The exact cost of hedging with call options (as measured in the text) is not known with certainty at the time that the options are purchased. a. True b. False

: T

: 1 67. When comparing the forward hedge to the money market hedge, the MNC can easily determine which hedge is more desirable, because the cost of each hedge can be determined with certainty. a. True b. False

: T

: 1 74. Most MNCs do not perceive their foreign exchange management as a profit center. Rather, their main responsibility is to assess potential exposure and determine how and if the exposure should be hedged. a. True b. False

: T

: 1 75. If a firm is hedging payables with futures contracts, it may end up paying more for the payable than it would have had it remained unhedged if the foreign currency depreciates. a. True b. False

: T

: 1 76. A money market hedge involves taking a money market position to cover a future payables or receivables position. a. True b. False

: T

: 1 80. An advantage of using options to hedge is that the MNC can let the option expire. However, a disadvantage of using options is that a premium must be paid for it. a. True b. False

: T

: 1 81. To hedge a receivable position with a currency option hedge, an MNC would buy a put option. a. True b. False

: T

: 1 82. Dollar cash flows associated with two foreign inflow currencies will normally be less volatile if the standard deviations of the individual currencies are lower. a. True b. False

: T

: 1 82. Futures, forward, and money market hedges all lock into a certain price to be received from hedging a receivable. For a currency option hedge with a put option, however, the exact amount received is not known until the option is (or is not) exercised. a. True b. False

: T

: 1 84. Overhedging refers to the hedging of a larger amount in a currency than the actual transaction amount. a. True b. False

: T

: 1 86. U.S. exporters may not necessarily benefit from weak-dollar periods if foreign competitors are willing to reduce their profit margin. a. True b. False

: T

: 1 88. Cross-hedging may involve taking a forward position in a currency that is highly correlated with the currency an MNC needs to hedge. a. True b. False

: T

: 1 89. Since earnings can affect stock prices, many MNCs are concerned about translation exposure. a. True b. False

: T

: 1 90. A company may become more exposed or sensitive to an individual currency's movements over time for several reasons, including a reduction in hedging, a greater involvement in the foreign country, or an increased use of the foreign currency. a. True b. False

: T

If foreign exchange markets are strong-form efficient, then all relevant public and private information is already reflected in today's exchange rates. a. True b. False

a. True

If the forward rate is used as an indicator of the future spot rate, the spot rate is expected to appreciate or depreciate by the same amount as the forward premium or discount, respectively. a. True b. False

a. True

In market-based forecasting, a forward rate quoted for a specific date in the future can be used as the forecasted spot rate on that future date. a. True b. False

a. True

Inflation and interest rate differentials between the U.S. and foreign countries are examples of variables that could be used in fundamental forecasting. a. True b. False

a. True

The closer graphical points are to the perfect forecast line, the better is the forecast. a. True b. False

a. True

The potential forecast error is larger for currencies that are more volatile. a. True b. False

a. True

Two methods to assess exchange rate volatility are the volatility of historical exchange rate movements and the exchange rate's implied standard deviation from the currency option pricing model. a. True b. False

a. True

Using the inflation differential between two countries to forecast their exchange rates is not always accurate because of such factors as the uncertain timing of the impact of inflation and barriers to trade. a. True b. False

a. True

When measuring forecast performance of different currencies, it is often useful to adjust for their relative sizes. Thus, percentages rather than nominal amounts are often used to compute forecast errors. a. True b. False

a. True

According to the text, currency variability levels ____ perfectly stable over time, and currency correlations ____ perfectly stable over time. a. are; are not b. are; are c. are not; are not d. are not; are

are not; are not

Pro Corp, a U.S.-based MNC, uses purchasing power parity to forecast the value of the Thai baht (THB), which has a current exchange rate of $0.022. Inflation in the U.S. is expected to be 3% during the next year, while inflation in Thailand is expected to be 10%. Under this scenario, Pro Corp would forecast the value of the baht at the end of the year to be: a. $0.023. b. $0.021. c. $0.020. d. None of the above

b. $0.021

The most recent quarterly percentage change in the inflation differential is ?5%, while the most recent quarterly percentage change in the income differential is 3%. Using this information, the forecast for the percentage change in the ringgit is a. 4.60%. b. 1.80%. c. 5.2%. d. 4.60%. e. None of the above

b. 1.80%

Using this information, the forecast for the percentage change in the ringgit is: a. 4.60%. b. 1.80%. c. 5.2%. d. 4.60%. e. none of the above

b. 1.80%

The one-year forward rate of the British pound is $1.55, while the current spot rate is $1.60. Based on the forward rate, what is the expected percentage change in the British pound over the next year? a. +5.0% b. ?3.1% c. +3.1% d. +3.2% e. None of the above

b. 3.1%

A forecast of a currency one year in advance is typically more accurate than a forecast one week in advance since the currency reverts to equilibrium over a longer term period. a. True b. False

b. False

A forecasting technique based on fundamental relationships between economic variables and exchange rates, such as inflation, is referred to as technical forecasting. a. True b. False

b. False

A regression analysis of the Australian dollar value on the inflation differential between the U.S. and Australia produced a coefficient of .8. Thus, for every 1% increase in the inflation differential, the Australian dollar is expected to depreciate by .8%. a. True b. False

b. False

Exchange rates one year in advance are typically forecasted with almost perfect accuracy for the major currencies, but not for currencies of smaller countries. a. True b. False

b. False

Forecast errors tend to be large for short forecast horizons. a. True b. False

b. False

Foreign exchange markets appear to be strong-form efficient. a. True b. False

b. False

Fundamental models examine moving averages over time and thus allow the development of a forecasting rule. a. True b. False

b. False

If graphical points lie above the perfect forecast line, than the forecast overestimated the future value. a. True b. False

b. False

If points are scattered evenly on both sides of the perfect forecast line, then the forecast appears to be very accurate. a. True b. False

b. False

If the pattern of currency values over time appears random, then technical forecasting is appropriate. a. True b. False

b. False

In general, any key managerial decision that is based on forecasted exchange rates should rely completely on one forecast rather than alternative exchange rate scenarios. a. True b. False

b. False

Market-based forecasting involves the use of historical exchange rate data to predict future values. a. True b. False

b. False

Market-based forecasting is based on fundamental relationships between economic variables and exchange rates. a. True b. False

b. False

Research indicates that currency forecasting services almost always outperform forecasts based on the forward rate. a. True b. False

b. False

Since the forward rate does not capture the nominal interest rate between two countries, it should provide a less accurate forecast for currencies in high-inflation countries than the spot rate. a. True b. False

b. False

The most sophisticated forecasting techniques provide consistently accurate forecasts. a. True b. False

b. False

Usually, fundamental forecasting is used for short-term forecasts, while technical forecasting is used for longer-term forecasts. a. True b. False

b. False

When a U.S.-based MNC wants to determine whether to establish a subsidiary in a foreign country, it will always accept that project if the foreign currency is expected to appreciate. a. True b. False

b. False

When measuring forecast performance of different currencies, it is often useful to adjust for their relative sizes. Thus, percentages, rather than nominal amounts, are often used to compute forecast errors. a. True b. False

b. False

Jacko Co. is a U.S.-based MNC with net cash inflows of euros and net cash inflows of Sunland francs. These two currencies are highly negatively correlated in their movements against the dollar. Kriner Co. is a U.S.-based MNC that has the same exposure as Jacko Co. in these currencies, except that its Sunland francs represent cash outflows. Which firm has a high exposure to exchange rate risk? a. Jacko Co. b. Kriner Co. c. the firms have about the same level of exposure. d. neither firm has any exposure.

b. Kriner Co.

According to the text, the analysis of currencies forecasted with use of the forward rate suggests that: a. currencies exhibited about the same mean forecast errors as a percent of the realized value. b. the Canadian dollar can be forecasted by U.S. firms with greater accuracy than other currencies. c. the Swiss franc can be forecasted by U.S. firms with greater accuracy than other currencies. d. none of the above

b. the Canadian dollar can be forecasted by U.S. firms with greater accuracy than other currencies

Foreign exchange markets are generally found to be at least ____ efficient. a. weak-form b. semi-strong form c. strong form d. none of the above

b. semi-strong form

If the forward rate was expected to be an unbiased estimate of the future spot rate, and interest rate parity holds, then: a. covered interest arbitrage is feasible. b. the international Fisher effect (IFE) is supported. c. the international Fisher effect (IFE) is refuted. d. the average absolute error from forecasting would equal zero.

b. the international Fisher effect (IFE) is supported

Regression results reveal coefficients of a0 = 0 and a1 = 1.3. Thus, Gamma has reason to believe that its past forecasts have ____ the realized spot rate. a. overestimated b. underestimated c. correctly estimated d. none of the above

b. underestimated

If a foreign currency is expected to ____ substantially against the parent's currency, the parent may prefer to ____ the remittance of subsidiary earnings. a. weaken; delay b. weaken; expedite c. appreciate; expedite d. none of the above

b. weaken; expedite

Monson Co., based in the U.S., exports products to Japan denominated in yen. If the forecasted value of the yen is substantially ____ than the forward rate, Monson Co. will likely decide ____ the payments. a. higher; to hedge b. lower; not to hedge c. higher; not to hedge d. none of the above

c. higher; not to hedge

Assume that the forward rate is used to forecast the spot rate. The forward rate of the Canadian dollar contains a 6% discount. Today's spot rate of the Canadian dollar is $.80. The spot rate forecasted for one year ahead is: a. $.860. b. $.848. c. $.740. d. $.752. e. none of the above

d. $.752

According to the text, research generally supports ____ in foreign exchange markets. a. weak-form efficiency b. semistrong-form efficiency c. strong-form efficiency d. A and B e. B and C

d. A and B

If today's exchange rate reflects all relevant public information about the euro's exchange rate, but not all relevant private information, then ____ would be refuted. a. weak-form efficiency b. semistrong-form efficiency c. strong-form efficiency d. A and B e. B and C

d. A and B

The following is not a limitation of technical forecasting: a. It's not suitable for long-term forecasts of exchange rates. b. It doesn't provide point estimates or a range of possible future values. c. It cannot be applied to currencies that exhibit random movements. d. It cannot be applied to currencies that exhibit a continuous trend for short-term forecast.

d. It cannot be applied to currencies that exhibit a continuous trend for short-term forecast

Which of the following is true according to the text? a. Forecasts in recent years have been very accurate. b. Use of the absolute forecast error as a percent of the realized value is a good measure to use in detecting a forecast bias. c. Forecasting errors are smaller when focused on longer term periods. d. None of the above.

d. None of the above

Which of the following is true? a. Forecast errors cannot be negative. b. Forecast errors are negative when the forecasted rate exceeds the realized rate. c. Absolute forecast errors are negative when the forecasted rate exceeds the realized rate. d. None of the above.

d. None of the above

If the foreign exchange market is ____ efficient, then historical and current exchange rate information is not useful for forecasting exchange rate movements. a. weak-form b. semistrong-form c. strong form d. all of the above

d. all of the above

If the foreign exchange market is ____ efficient, then technical analysis is not useful in forecasting exchange rate movements. a. weak-form b. semistrong-form c. strong form d. all of the above

d. all of the above

: 1 10. The real cost of hedging payables with a forward contract equals: a. the nominal cost of hedging minus the nominal cost of not hedging. b. the nominal cost of not hedging minus the nominal cost of hedging. c. the nominal cost of hedging divided by the nominal cost of not hedging. d. the nominal cost of not hedging divided by the nominal cost of hedging.

: A

: 1 11. Assume that the British pound and Swiss franc are highly correlated. A U.S. firm anticipates the equivalent of $1 million cash outflows in francs and the equivalent of $1 million cash outflows in pounds. During a ____ cycle, the firm is ____ affected by its exposure. a. strong dollar; favorably b. weak dollar; not c. strong dollar; not d. weak dollar; favorably

: A

: 1 11. From the perspective of Detroit Co., which has payables in Mexican pesos and receivables in Canadian dollars, hedging the payables would be most desirable if the expected real cost of hedging payables is ____, and hedging the receivables would be most desirable if the expected real cost of hedging receivables is ____. a. negative; positive b. zero; positive c. zero; zero d. positive; negative e. negative; negative

: E

: 1 57. Even if translation exposure does not affect cash flows, it is a concern of many MNCs. a. True b. False

: T

: 1 87. Lagging refers to the delay of payment by a subsidiary if the currency denominating the payable is expected to depreciate. a. True b. False

: T

If the one-year forward rate for the euro is $1.07, while the current spot rate is $1.05, the expected percentage change in the euro is ____%. a. 1.90 b. 2.00 c. 1.87 d. none of the above

a. 1.90

You have developed the following probability distribution: Probability 30% 40% 30% Possible Outcome ?2% ?3% ?4% MYRt = .005 + (.4)(.03) + (.7)(?.05) = ?1.80% The expected change in the Indian rupee in period t is: a. 3.40%. b. 0.40%. c. 3.10%. d. 1.70%. e. none of the above

a. 3.40%

Which of the following is not a forecasting technique mentioned in your text? a. Accounting-based forecasting b. Technical forecasting c. Fundamental forecasting d. Market-based forecasting e. Mixed forecasting

a. Accounting-based forecasting

Diz Co. is a U.S.-based MNC with net cash inflows of euros and net cash inflows of Swiss francs. These two currencies are highly correlated in their movements against the dollar. Yanta Co. is a U.S.-based MNC that has the same level of net cash flows in these currencies as Diz Co. except that its euros represent net cash outflows. Which firm has a higher exposure to exchange rate risk? a. Diz Co. b. Yanta Co. c. the firms have about the same level of exposure. d. neither firm has any exposure.

a. Diz Co.

A motivation for forecasting exchange rate volatility is to obtain a range surrounding the forecast. a. True b. False

a. True

Corporations tend to make only limited use of technical forecasting because it typically focuses on the near future, which is not very helpful for developing corporate policies. a. True b. False

a. True

If a foreign country's interest rate is similar to the U.S. rate, the forward rate premium or discount will be close to zero, meaning that the forward rate and spot rate will provide similar forecasts. a. True b. False

a. True

MNCs can forecast exchange rate volatility to determine the potential range surrounding their exchange rate forecast. a. True b. False

a. True

Huge Corporation has just initiated a market-based forecast system using the forward rate as an estimate of the future spot rate of the Japanese yen (? and the Australian dollar (A$). Listed below are ) the forecasted and realized values for the last period: Currency Australian dollar Japanese yen Forecasted Value $.60 $.0067 Realized Value $.55 $.0069 According to this information and using the absolute forecast error as a percentage of the realized value, the forecast of the yen by Huge Corp. is ____ the forecast of the Australian dollar. a. more accurate than b. less accurate than c. more biased than d. the same as

a. more accurate than

Regression results reveal coefficients of a0 = 0 and a1 = .30. Thus, Leila Corporation has reason to believe that its past forecasts have ____ the realized spot rate. a. overestimated b. underestimated c. correctly estimated d. none of the above

a. overestimated

A fundamental forecast that uses multiple values of the influential factors is an example of: a. sensitivity analysis. b. discriminant analysis. c. technical analysis. d. factor analysis.

a. sensitivity analysis

If it was determined that the movement of exchange rates was not related to previous exchange rate values, this implies that a ____ is not valuable for speculating on expected exchange rate movements. a. technical forecast technique b. fundamental forecast technique c. all of the above d. none of the above

a. technical forecast technique

If both interest rate parity and the international Fisher effect hold, then between the forward rate and the spot rate, the ____ rate should provide more accurate forecasts for currencies in ____-inflation countries. a. spot; high b. spot; low c. forward; high d. forward; low

c. forward; high

Which of the following is not one of the major reasons for MNCs to forecast exchange rates? a. to decide in which foreign market to invest the excess cash. b. to decide where to borrow at the lowest cost. c. to determine whether to require the subsidiary to remit the funds or invest them locally. d. to speculate on the exchange rate movements.

d. to speculate on the exchange rate movements

Assume that interest rate parity holds. The U.S. five-year interest rate is 5% annualized, and the Mexican five-year interest rate is 8% annualized. Today's spot rate of the Mexican peso is $.20. What is the approximate five-year forecast of the peso's spot rate if the five-year forward rate is used as a forecast? a. $.131. b. $.226. c. $.262. d. $.140. e. $.174.

e. $.174

: 1 62. A put option essentially represents two swaps of currencies, one swap at the inception of the loan contract and another swap at a specified date in the future. a. True b. False

: F

: 1 65. The tradeoff when considering alternative call options to hedge a currency position is that an MNC can obtain a call option with a higher exercise price, but would have to pay a higher premium. a. True b. False

: F

: 1 66. When comparing the forward hedge to the options hedge, the MNC can easily determine which hedge is more desirable, because the cost of each hedge can be determined with certainty. a. True b. False

: F

: 1 73. If an MNC assesses net transaction exposure, this refers to the consolidation of all expected inflows for a particular time and currency. a. True b. False

: F

: 1 16. A ____ involves an exchange of currencies between two parties, with a promise to re-exchange currencies at a specified exchange rate and future date. a. long-term forward contract b. currency option contract c. parallel loan d. money market hedge

: C

: 1 11. With regard to hedging translation exposure, translation losses ____, and gains on forward contracts used to hedge translation exposure ____. a. are not tax deductible; are taxed b. are tax deductible; are taxed c. are not tax deductible; are not taxed d. are tax deductible; are not taxed

: A

: 1 14. Foghat Co. has 1,000,000 euros as receivables due in 30 days, and is certain that the euro will depreciate substantially over time. Assuming that the firm is correct, the ideal strategy is to: a. sell euros forward. b. purchase euro currency put options. c. purchase euro currency call options. d. purchase euros forward. e. remain unhedged.

: A

: 1 2. Assume zero transaction costs. If the 180-day forward rate overestimates the spot rate 180 days from now, then the real cost of hedging payables will be: a. positive. b. negative. c. positive if the forward rate exhibits a premium, and negative if the forward rate exhibits a discount. d. zero.

: A

: 1 20. An effective way for an MNC to assess its economic exposure is to review the firm's: a. income statement. b. liquidity. c. retained earnings. d. level of stockholders' equity.

: A

: 1 22. Managing economic exposure is generally perceived to be ____ managing transaction exposure. a. more difficult than b. less difficult than c. just as difficult as d. none of the above

: A

: 1 24. Cierra, Inc. is attempting to assess its degree of economic exposure in euros. In order to do so, it has applied regression analysis to determine whether the percentage change in its total cash flow is related to the percentage change in the euro. A ____ and statistically significant slope coefficient resulting from this analysis implies that the cash flows are ____ related to the percentage changes in the euro. a. positive; positively b. positive; negatively c. negative; positively d. B and C e. none of the above

: A

: 1 26. The ____ hedge is not a technique to eliminate transaction exposure discussed in your text. a. index b. futures c. forward d. money market e. currency option

: A

: 1 29. ____ exposure occurs when an MNC translates each subsidiary's financial data to its home currency for consolidated financial statements. a. Translation b. Transaction c. Economic d. None of the above

: A

: 1 30. ____ is (are) not a limitation of hedging translation exposure. a. Inaccurate stock price forecasts b. Inadequate forward contracts for some currencies c. Taxation on gains from forward contracts d. Increased transaction exposure

: A

: 1 33. Appreciation in a firm's local currency causes a(n) ____ in cash inflows and a(n) ____ in cash outflows. a. reduction; reduction b. increase; increase c. increase; reduction d. reduction; increase

: A

: 1 37. If the U.S. dollar appreciates, an MNC's: a. U.S. sales will probably decrease. b. exports denominated in U.S. dollars will probably increase. c. interest owed on foreign funds borrowed will probably increase. d. exports denominated in foreign currencies will probably increase. e. all of the above

: A

: 1 44. Vermont Co. has foreign expenses denominated in euros that exceed foreign revenues. Appreciation of the euro relative to the U.S. dollar will cause this firm's reported earnings (from the consolidated income statement) to ____. If a firm desired to protect against this possibility, it could stabilize its reported earnings by ____ euros forward in the foreign exchange market. a. decrease; purchasing b. decrease; selling c. increase; selling d. increase; purchasing

: A

: 1 48. Orlando Co. produces home appliances and sells them in the U.S. It outsources the production of the appliances to a Chinese manufacturer, and the imported appliances are priced in dollars. Its major competitor for appliances is located in Mexico. Based on this information, Orlando Co. is subject to ____ exposure. a. economic b. transaction c. translation d. economic and transaction

: A

: 1 49. Tennessee Co. conducts business in the U.S. and Canada. The net cash flows from Canadian operations are expected to be C$500,000 next year. The Canadian dollar is valued at about $.90. The net cash flows from U.S. operations are supposed to be $200,000. To reduce sensitivity of its net cash flows without reducing its volume of business in Canada, Tennessee Co. could: a. purchase Canadian supplies. b. increase its borrowings in U.S. c. decrease prices on Canadian goods. d. decrease its borrowed funds in Canada.

: A

: 1 5. An example of cross-hedging is: a. find two currencies that are highly positively correlated; match the payables of the one currency to the receivables of the other currency. b. use the forward market to sell forward whatever currencies you will receive. c. use the forward market to buy forward whatever currencies you will receive. d. B and C

: A

: 1 5. Which of the following is an example of economic exposure but not an example of transaction exposure? a. An increase in the dollar's value hurts a U.S. firm's domestic sales because foreign competitors are able to increase their sales to U.S. customers. b. An increase in the pound's value increases the U.S. firm's cost of British pound payables. c. A decrease in the peso's value decreases a U.S. firm's dollar value of peso receivables. d. A decrease in the Swiss franc's value decreases the dollar value of interest payments on a Swiss deposit sent to a U.S. firm by a Swiss bank.

: A

: 1 67. Yomance Co. is a U.S. company that has exposure to Japanese yen and British pounds. It has net inflows of 5,000,000 yen and net outflows of 60,000 pounds. The present exchange rate of the Japanese yen is $.012 while the present exchange rate of the British pound is $1.50. Yomance Co. has not hedged its positions. The yen and pound movements against the dollar are highly and positively correlated. If the dollar strengthens, then Yomance Co. will: a. benefit, because the dollar value of its pound position exceeds the dollar value of its yen position. b. benefit, because the dollar value of its yen position exceeds the dollar value of its pound position. c. be adversely affected, because the dollar value of its pound position exceeds the dollar value of its yen position. d. be adversely affected, because the dollar value of its yen position exceeds the dollar value of its pound position.

: A

: 1 71. U.S. based Majestic Co. sells products to U.S. consumers and purchases all of materials from U.S. suppliers. Its main competitor is located in Belgium. Majestic Co. is subject to: a. economic exposure. b. translation exposure. c. transaction exposure. d. no exposure to exchange rate fluctuations.

: A

: 1 72. Vermont Co. has one foreign subsidiary. Its translation exposure is directly affected by each of the following, except: a. the interest rate in the country of the subsidiary. b. proportion of business conducted by the subsidiary. c. its accounting method. d. the exchange rate movements of the subsidiary's currency.

: A

: 1 90. The ____ hedge is not a technique to eliminate transaction exposure discussed in your text. a. index b. futures c. forward d. money market e. currency option

: A

: 1 93. If the U.S. dollar appreciates, a. an MNC's U.S. sales will probably decrease. b. an MNC's exports denominated in U.S. dollars will probably increase. c. an MNC's interest owed on foreign funds borrowed will probably increase. d. an MNC's exports denominated in foreign currencies will probably increase. e. all of the above

: A

: 1 ?€2,000,000 + €1,500,000 = ?€500,000 ? $1.05 = ?$525,000 25. ____ exposure is the degree to which the value of contractual transactions can be affected by exchange rate fluctuations. a. Transaction b. Economic c. Translation d. None of the above

: A

Which of the following operations benefits from appreciation of the firm's local currency? a. borrowing in a foreign currency and converting the funds to the local currency prior to the appreciation. b. receiving earnings dividends from foreign subsidiaries. c. purchasing supplies locally rather than overseas. d. exporting to foreign countries.

: A

: 1 41. Consider an MNC that is exposed to the Taiwan dollar (TWD) and the Egyptian pound (EGP). 25% of the MNC's funds are Taiwan dollars and 75% are pounds. The standard deviation of exchange movements is 7% for Taiwan dollars and 5% for pounds. The correlation coefficient between movements in the value of the Taiwan dollar and the pound is .7. Based on this information, the standard deviation of this two-currency portfolio is approximately: a. 5.13%. b. 2.63%. c. 4.33%. d. 5.55%.

: A SOLUTION:

: 1 33. FAB Corporation will need 200,000 Canadian dollars (C$) in 90 days to cover a payable position. Currently, a 90-day call option with an exercise price of $.75 and a premium of $.01 is available. Also, a 90-day put option with an exercise price of $.73 and a premium of $.01 is available. FAB plans to purchase options to hedge its payable position. Assuming that the spot rate in 90 days is $.71, what is the net amount paid, assuming FAB wishes to minimize its cost? a. $144,000. b. $148,000. ($.73 ? $.01) ? 300,000 = $216,000. c. $152,000. d. $150,000.

: A SOLUTION: ($.71 + $.01) ? 200,000 = $144,000. Note: the call option is not exercised since the spot rate is less than the exercise price.

: 1 32. Refer to Exhibit 10-2. Assuming an expected percentage change of 0 percent for each currency during the next month, what is the maximum one-month loss of the currency portfolio? Use a 95 percent confidence level and assume the monthly percentage changes for each currency are normally distributed. a. ?9.00%. b. ?30.00%. c. ?5.00%. d. none of the above

: A SOLUTION: 0% ? (1.65 ? 5.44%) = ?9.00%

: 1 31. Lorre Company needs 200,000 Canadian dollars (C$) in 90 days and is trying to determine whether or not to hedge this position. Lorre has developed the following probability distribution for the Canadian dollar: Possible Value of Canadian Dollar in 90 Days $0.54 0.57 0.58 0.59 Probability 15% 25% 35% 25% The 90-day forward rate of the Canadian dollar is $.575, and the expected spot rate of the Canadian dollar in 90 days is $.55. If Lorre implements a forward hedge, what is the probability that hedging will be more costly to the firm than not hedging? a. 40%. b. 60%. c. 15%. d. 85%.

: A SOLUTION: Since Lorre locks into the $.575 with a forward contract, the first two cases would have been cheaper had Lorre not hedged (15% + 25% = 40%).

: 1 10. It is generally least difficult to effectively hedge various types of: a. translation exposure. b. transaction exposure. c. economic exposure. d. A and C

: B

: 1 10. Under FASB 52: a. translation gains and losses are included in the reported net income. b. translation gains and losses are included in stockholder's equity. c. A and B d. none of the above

: B

: 1 13. Assume that Cooper Co. will not use its cash balances in a money market hedge. When deciding between a forward hedge and a money market hedge, it ____ determine which hedge is preferable before implementing the hedge. It ____ determine whether either hedge will outperform an unhedged strategy before implementing the hedge. a. can; can b. can; cannot c. cannot; can d. cannot; cannot

: B

: 1 14. Assume a U.S. firm uses a forward contract to hedge all of its translation exposure. Also assume that the firm underestimated what its foreign earnings would be. Assume that the foreign currency depreciated over the year. The firm would generate a translation ____, which would be ____ than the gain generated by the forward contract. a. loss; smaller b. loss; larger c. gain; larger d. gain; smaller

: B

: 1 16. Assume that a Japanese car manufacturer exports cars to U.S. dealerships, which are priced in yen. The demand for those cars declines when the yen is strong. The manufacturer also produces some cars in the U.S. with U.S. materials and those cars are priced in dollars. The manufacturer could reduce its economic exposure by: a. closing down most of its plants in the U.S. b. producing more automobiles in the U.S. c. relying completely on Japanese suppliers for its parts. d. pricing its exports in dollars.

: B

: 1 17. Wisconsin Inc. conducts business in Zambia. Years ago, Wisconsin established a subsidiary in Zambia that has consistently generated very large profits denominated in Zambian kwacha. Wisconsin wishes to restructure its operations to reduce economic exposure. Which of the following is not a feasible way of accomplishing this? a. increase Zambian supply orders. b. increase Zambian sales. c. restructure debt to increase debt payments in Zambia. d. reduce Zambian sales.

: B

: 1 18. If a U.S. firm's cost of goods sold exposure is much greater than its sales exposure in Switzerland, there is a ____ overall impact of the Swiss franc's depreciation against the dollar on ____. a. positive; interest expenses b. positive; gross profit c. negative; gross profit d. negative; interest expenses

: B

: 1 19. ____ represents any impact of exchange rate fluctuations on a firm's future cash flows. a. Translation exposure b. Economic exposure c. Transaction exposure d. None of the above

: B

: 1 2. Springfield Co., based in the U.S., has a cost from orders of foreign material that exceeds its foreign revenue. All foreign transactions are denominated in the foreign currency of concern. This firm would ____ a stronger dollar and would ____ a weaker dollar. a. benefit from; be unaffected by b. benefit from; be adversely affected by c. be unaffected by; be adversely affected by d. be unaffected by; benefit from e. benefit from; benefit from

: B

: 1 21. Which of the following is not a form of exposure to exchange rate fluctuations? a. transaction exposure. b. credit exposure. c. economic exposure. d. translation exposure.

: B

: 1 23. As opposed to transaction exposure, managing economic exposure involves developing a(n) ____ solution. a. short-term b. long-term c. immediate d. none of the above

: B

: 1 24. One argument for exchange rate irrelevance is that: a. MNCs can hedge exchange rate exposure much more effectively than individual investors. b. investors can invest in a diversified stock portfolio of MNCs that have different exposures to exchange rates. c. purchasing power parity does not hold very well. d. MNCs are typically not diversified across numerous countries.

: B

: 1 26. If an MNC expects cash inflows of equal amounts in two currencies, and the two currencies are ____ correlated, the MNC's transaction exposure is relatively ____. a. negatively; high b. negatively; low c. positively; low d. none of the above

: B

: 1 31. To hedge translation exposure, MNCs could ____ that their foreign subsidiaries receive as earnings to create a cash outflow in the currency to offset the earnings received in that currency. a. purchase the currency forward b. sell the currency forward c. purchase futures contracts of the currency d. A or C e. none of the above

: B

: 1 35. If interest rate parity exists, and transaction costs do not exist, the money market hedge will yield the same result as the ____ hedge. a. put option b. forward c. call option d. none of the above

: B

: 1 38. Assume that Mill Corporation, a U.S.-based MNC, has applied the following regression model to estimate the sensitivity of its cash flows to exchange rate movements: PCFt = a0 + a1et + ?t where the term on the left-hand side is the percentage change in inflation-adjusted cash flows measured in the firm's home currency over period t, and et is the percentage change in the exchange rate of the currency over period t. The regression model estimates a coefficient of a1 of 2. This indicates that: a. if the foreign currency appreciates by 1%, Mill's cash flows will decline by 2%. b. if the foreign currency appreciates by 1%, Mill's cash flows will decline by .2%. c. if the foreign currency depreciates by 1%, Mill's cash flows will increase by 2%. d. if the foreign currency depreciates by 1%, Mill's cash flows will decline by 2%. e. none of the above

: B

: 1 49. A ____ is not normally used for hedging long-term transaction exposure. a. long-term forward contact b. futures contract c. currency swap d. parallel loan

: B

: 1 50. Mercury Co. has a subsidiary based in Italy and is exposed to translation exposure. Mercury forecasts that its earnings next year will be €10 million. Mercury decides to hedge the expected earnings by selling €10 million forward. During the next year, the euro appreciated. Mercury's consolidated earnings were ____ affected by the euro's movement, and Mercury's hedge position was ____ affected by the euro's movement. a. favorably; favorably b. favorably; adversely c. adversely; favorably d. adversely; adversely

: B

: 1 68. Assume zero transaction costs. If the 90-day forward rate of the euro underestimates the spot rate 90 days from now, then the real cost of hedging payables will be: a. positive. b. negative. c. positive if the forward rate exhibits a premium, and negative if the forward rate exhibits a discount. d. zero.

: B

: 1 68. Generally, MNCs with less foreign revenues than foreign costs will be ____ affected by a ____ foreign currency. a. favorably; stronger b. favorably; weaker c. not; stronger d. not; weaker

: B

: 1 70. If a U.S. firm's sales in Australia are much greater than its cost of goods sold in Australia, the appreciation of the Australian dollar has a ____ impact on the firm's ____. a. positive; interest expenses b. positive; gross profit c. negative; interest expenses d. negative; gross profit

: B

: 1 71. Mender Co. will be receiving 500,000 Australian dollars in 180 days. Currently, a 180-day call option with an exercise price of $.68 and a premium of $.02 is available. Also, a 180-day put option with an exercise price of $.66 and a premium of $.02 is available. Mender plans to purchase options to hedge its receivables position. Assuming that the spot rate in 180 days is $.67, what is the amount received from the currency option hedge (after considering the premium paid)? a. $330,000 b. $325,000 c. $320,000 d. $340,000

: B

: 1 77. Assume that the Japanese yen is expected to depreciate substantially over the next year. The U.S.-based MNC has a subsidiary in Japan, where its costs exceed revenues. The overall value of MNC will ____ because of the yen's depreciation. a. decrease b. increase c. remain unchanged d. A and C are possible

: B

: 1 91. Which of the following is not a form of exposure to exchange rate fluctuations? a. Transaction exposure b. Credit exposure c. Economic exposure d. Translation exposure

: B

: 1 92. Which of the following is not true regarding currency correlations? a. Two highly positively correlated currencies act almost as if they are the same currency. b. If two inflow currencies are highly positively correlated transaction exposure is somewhat offset. c. If two inflow currencies are negatively correlated transaction exposure is somewhat offset. d. If two currencies, one an inflow currency and the other an outflow currency, are highly positively correlated, transaction exposure is somewhat offset.

: B

: 1 94. Which of the following is not true regarding economic exposure? a. Even purely domestic firms can be affected by economic exposure. b. In general, depreciation of the firm's local currency causes a decrease in both cash inflows and outflows. c. The degree of economic exposure will likely be much greater for a firm involved in international business than for a purely domestic firm. d. The impact of a change in the local currency on inflow and outflow variables can sometimes be indirect and therefore different from what is expected. e. All of the above are true.

: B

Chapter 12—Managing Economic Exposure and Translation Exposure 1. Depreciation of the euro relative to the U.S. dollar will cause a U.S.-based multinational firm's reported earnings (from the consolidated income statement) to ____. If a firm desired to protect against this possibility, it could stabilize its reported earnings by ____ euros forward in the foreign exchange market. a. be reduced; purchasing b. be reduced; selling c. increase; selling d. increase; purchasing

: B

: 1 42. Consider an MNC that is exposed to the Bulgarian lev (BGL) and the Romanian leu (ROL). 30% of the MNC's funds are lev and 70% are leu. The standard deviation of exchange movements is 10% for lev and 15% for leu. The correlation coefficient between movements in the value of the lev and the leu is .85. Based on this information, the standard deviation of this two-currency portfolio is approximately: a. 17.28%. b. 13.15%. c. 14.50%. d. 12.04%.

: B SOLUTION:

: 1 44. Samson Inc. needs €1,000,000 in 30 days. Samson can earn 5 percent annualized on a German security. The current spot rate for the euro is $1.00. Samson can borrow funds in the U.S. at an annualized interest rate of 6 percent. If Samson uses a money market hedge, how much should it borrow in the U.S.? a. $952,381. b. $995,851. c. $943,396. d. $995,025.

: B SOLUTION:

: 1 A$1,000,000 ? A$1,500,000 = ?A$500,000 ? $.55 = ?$275,000 23. Dubas Co. is a U.S.-based MNC that has a subsidiary in Germany and another subsidiary in Greece. Both subsidiaries frequently remit their earnings back to the parent company. The German subsidiary generated a net outflow of €2,000,000 this year, while the Greek subsidiary generated a net inflow of €1,500,000. What is the net inflow or outflow as measured in U.S. dollars this year? The exchange rate for the euro is $1.05. a. $3,675,000 outflow b. $525,000 outflow c. $525,000 inflow d. $210,000 outflow

: B SOLUTION:

: 1 Exhibit 10-2 Volusia, Inc. is a U.S.-based exporting firm that expects to receive payments denominated in both euros and Canadian dollars in one month. Based on today's spot rates, the dollar value of the funds to be received is estimated at $500,000 for the euros and $300,000 for the Canadian dollars. Based on data for the last fifty months, Volusia estimates the standard deviation of monthly percentage changes to be 8 percent for the euro and 3 percent for the Canadian dollar. The correlation coefficient between the euro and the Canadian dollar is 0.30. 31. Refer to Exhibit 10-2. What is the portfolio standard deviation? a. 3.00%. b. 5.44%. c. 17.98%. d. none of the above

: B SOLUTION:

: 1 29. Refer to Exhibit 10-1. What is the maximum one-day loss in dollars if the expected percentage change of the euro tomorrow is 0.5%? The current spot rate of the euro (before considering the maximum one-day loss) is $1.01. a. ?$75,750. b. ?$60,600. c. ?$111,100. d. ?$25,250.

: B SOLUTION: 0.5% ? (1.65 ? 1%) = ?1.2% $1.01 ? (?.012) ? 5,000,000 = ?$60,600 0.5% ? (1.65 ? 1%) = ?1.2%

: 1 30. Refer to Exhibit 11-1. Pablo Corp. will need 150,000 Jordanian dinar (JOD) in 360 days. The current spot rate of the dinar is $1.48, while the 360-day forward rate is $1.46. What is Pablo's cost from implementing a money market hedge (assume Pablo does not have any excess cash)? a. $224,135. b. $226,269. c. $224,114. d. $223,212.

: B SOLUTION: 1. Need to invest JOD144,230.76 (JOD150,000/1.04) = JOD144,230.76. 2. Need to convert $213,461.52 to obtain the JOD144,230.76 dinar (JOD144,230.76 ? $1.48) = $213,461.52. At the end of 360 days, need $226,269.22 ($213,461.52 ? 1.06) = $226,269.21. 3.

: 1 = (MYR1,500,000 ? $0.20) ? (MYR1,500,000 ? $0.23) = ?$45,000 = (MYR1,500,000 ? $0.25) ? (MYR1,500,000 ? $0.23) = $30,000 = (.30)(?45,000) + (.7)(30,000) = 7,5000 28. Hanson Corp. frequently uses a forward hedge to hedge its British pound (? payables. For the next ) quarter, Hanson has identified its net exposure to the pound as being ? 1,000,000. The 90-day forward rate is $1.50. Furthermore, Hanson's financial center has indicated that the possible values of the British pound at the end of next quarter are $1.57 and $1.59, with probabilities of .50 and .50, respectively. Based on this information, what is the expected real cost of hedging payables? a. $80,000. b. ?$80,000. c. $1,570,000. d. $1,580,000.

: B SOLUTION: RCH(1) = (? 1,000,000 ? $1.50) ? (? 1,000,000 ? $1.57) = ?$70,000 RCH(2) = (? 1,000,000 ? $1.50) ? (? 1,000,000 ? $1.59) = ?$90,000 E[RCH] = (.50)(?70,000) + (.50)(?$90,000) = ?$80,000

: 1 24. Assume that Jones Co. will need to purchase 100,000 Singapore dollars (S$) in 180 days. Today's spot rate of the S$ is $.50, and the 180-day forward rate is $.53. A call option on S$ exists, with an exercise price of $.52, a premium of $.02, and a 180-day expiration date. A put option on S$ exists, with an exercise price of $.51, a premium of $.02, and a 180-day expiration date. Jones has developed the following probability distribution for the spot rate in 180 days: Possible Spot Rate in 90 Days $.48 $.53 $.55 Probability 10% 60% 30% The probability that the forward hedge will result in a higher payment than the options hedge is ____ (include the amount paid for the premium when estimating the U.S. dollars required for the options hedge). a. 0% b. 10% c. 30% d. 40% e. 70%

: B SOLUTION: There is a 10% probability that the call option will not be exercised. In that case, Jones will pay $.48 ? S$100,000 = $48,000, which is less than the amount paid with the forward hedge ($.53 ? S$100,000 = $53,000).

: 1 13. If the Singapore dollar appreciates against the U.S. dollar over this year, the consolidated earnings of a U.S. company with a subsidiary in Singapore will be ____ as a result of the exchange rate movement. a. negative b. adversely affected c. favorably affected d. unaffected

: C

: 1 40. The following regression model was run by a U.S.-based MNC to determine its degree of economic exposure as it relates to the Australian dollar and Sudanese dinar (SDD): PCFt = a0 + a1et + ?t where the term on the left-hand side is the percentage change in inflation-adjusted cash flows measured in the firm's home currency over period t, and et is the percentage change in the exchange rate of the currency over period t. The regression was run over two subperiods for each of the two currencies, with the following results: Regression Coefficient (a1) Earlier Subperiod ?.80 Regression Coefficient (a1) Recent Subperiod .10 Currency Australian dollar (A$) Sudanese dinar (SDD) .20 .25 Based on these results, which of the following statements is probably not true? a. The MNC was more sensitive to movements in the Australian dollar than in the dinar in the earlier subperiod. b. The MNC was more sensitive to movements in the dinar than in the Australian dollar in the more recent subperiod. c. The MNC probably had more outflows than inflows in Australian dollars in the earlier subperiod. d. The MNC probably had more inflows than outflows denominated in dinar in the more recent subperiod. e. All of the above are true.

: C

: 1 42. In a forward hedge, if the forward rate is an accurate predictor of the future spot rate, the real cost of hedging payables will be: a. highly positive. b. highly negative. c. zero. d. none of the above

: C

: 1 45. Sarakose Co. is a U.S. company with sales to Canada amounting to C$5 million. Its cost of materials attributable to the purchase of Canadian goods is C$7 million. Its interest expense on Canadian loans is C$5 million. The dollar value of Sarakose's "earnings before interest and taxes" would ____ if the Canadian dollar appreciates; the dollar value of its cash flows would ____ if the Canadian dollar appreciates. a. increase; increase b. decrease; increase c. decrease; decrease d. increase; decrease e. increase; be unaffected

: C

: 1 47. Assume that Atlanta Co. is producing motorcycles and selling them to U.S. customers. Atlanta Co. obtains all of its supplies from American firms and has no competition in the U.S. It has one major competitor in Japan. Now assume that Phoenix Co. is producing office furniture and obtains its supplies from a Canadian firm. Based on this information, Atlanta Co. has ____ exposure and Phoenix Co. has ____ exposure. a. transaction; translation b. translation; transaction c. economic; transaction d. economic; translation

: C

: 1 60. Which of the following statements is incorrect? a. Transaction exposure represents only the exchange rate risk when converting net foreign cash inflows to U.S. dollars or when purchasing foreign currencies to send payments. b. Economic exposure represents any impact of exchange rate fluctuations on a firm's future cash flows. c. Firms can simply focus on hedging their foreign currency payables and/or receivables to hedge economic exposure. d. The management of economic exposure tends to serve as a long-term solution rather than just a short-term solution.

: C

: 1 69. If a U.S. firm's cost of goods sold in Switzerland is much greater than its sales in Switzerland, the appreciation of the Swiss franc has a ____ impact on the firm's ____. a. positive; interest expenses b. positive; gross profit c. negative; gross profit d. negative; interest expenses

: C

: 1 8. Which of the following operations benefit(s) from depreciation of the firm's local currency? a. borrowing in a foreign country and converting the funds to the local currency prior to the depreciation. b. purchasing foreign supplies. c. investing in foreign bank accounts denominated in foreign currencies prior to depreciation of the local currency. d. A and B

: C

: 1 9. Any restructuring of operations that ____ the difference between a foreign currency's inflows and outflows may ____ economic exposure. a. reduces; increase b. increases; reduce c. reduces; reduce d. A and B e. none of the above

: C

: 1 9. Economic exposure can affect: a. MNCs only. b. purely domestic firms only. c. A and B d. none of the above

: C

: 1 91. A money market hedge on payables would involve, among others, borrowing ____ and investing in the ____. a. the foreign currency; U.S. b. the foreign currency; foreign country c. dollars; foreign country d. dollars; U.S.

: C

: 1 92. FAI Corporation will be receiving 300,000 Canadian dollars (C$) in 90 days. Currently, a 90-day call option with an exercise price of $0.75 and a premium of $0.01 is available. Also, a 90-day put option with an exercise price of $0.73 and a premium of $0.01 is available. FAI plans to purchase options to hedge its receivable position. Assuming that the spot rate in 90 days is $0.71, what is the net amount received from the currency option hedge? a. $219,000 b. $222,000 c. $216,000 d. $213,000

: C

: 1 21. A call option exists on British pounds with an exercise price of $1.60, a 90-day expiration date, and a premium of $.03 per unit. A put option exists on British pounds with an exercise price of $1.60, a 90-day expiration date, and a premium of $.02 per unit. You plan to purchase options to cover your future receivables of 700,000 pounds in 90 days. You will exercise the option in 90 days (if at all). You expect the spot rate of the pound to be $1.57 in 90 days. Determine the amount of dollars to be received, after deducting payment for the option premium. a. $1,169,000. b. $1,099,000. c. $1,106,000. d. $1,143,100. e. $1,134,000.

: C SOLUTION:

: 1 3. Assume the following information: U.S. deposit rate for 1 year U.S. borrowing rate for 1 year Swiss deposit rate for 1 year Swiss borrowing rate for 1 year Swiss forward rate for 1 year Swiss franc spot rate = = = = = = 11% 12% 8% 10% $.40 $.39 Also assume that a U.S. exporter denominates its Swiss exports in Swiss francs and expects to receive SF600,000 in 1 year. Using the information above, what will be the approximate value of these exports in 1 year in U.S. dollars given that the firm executes a forward hedge? a. $234,000. b. $238,584. c. $240,000. d. $236,127.

: C SOLUTION:

: 1 32. Quasik Corporation will be receiving 300,000 Canadian dollars (C$) in 90 days. Currently, a 90-day call option with an exercise price of $.75 and a premium of $.01 is available. Also, a 90-day put option with an exercise price of $.73 and a premium of $.01 is available. Quasik plans to purchase options to hedge its receivable position. Assuming that the spot rate in 90 days is $.71, what is the net amount received from the currency option hedge? a. $219,000. b. $222,000. c. $216,000. d. $213,000.

: C SOLUTION:

: 1 77. To hedge a payable position in a foreign currency with a money market hedge, the MNC would borrow the foreign currency, convert it to dollars, and invest that amount in the U.S. until the payable is due. a. True b. False

: F

: 1 45. Blake Inc. needs €1,000,000 in 30 days. It can earn 5 percent annualized on a German security. The current spot rate for the euro is $1.00. Blake can borrow funds in the U.S. at an annualized interest rate of 6 percent. If Blake uses a money market hedge to hedge the payable, what is the cost of implementing the hedge? a. $1,000,000. b. $1,055,602. c. $1,000,830. d. $1,045,644.

: C SOLUTION: 1. Borrow $995,851 from a U.S. bank (€1,000,000 ? $1.00 ? [1 + (.05 ? 30/360)] 2. 3. 4. Convert $995,851 to €995,851, given the exchange rate of $1.00 per euro. Use the euros to purchase a German security that offers 0.42% interest over 30 days. Repay the U.S. loan in 30 days, plus interest; the amount owed is $1,000,830 (computed as $995,851 ? [1 + (.06 ? 30/360)]). 1,000,000/[1 + (5% ? 30/360) = $995,851

: 1 19. The forward rate of the Swiss franc is $.50. The spot rate of the Swiss franc is $.48. The following interest rates exist: U.S. 7% 6% Switzerland 5% 4% 360-day borrowing rate 360-day deposit rate You need to purchase SF200,000 in 360 days. If you use a money market hedge, the amount of dollars you need in 360 days is: a. $101,904. b. $101,923. c. $98,770. d. $96,914. e. $92,307.

: C SOLUTION: 1. Need to invest SF192,308 (SF200,000/1.04) = SF192,308. 2. 3. Need to borrow $92,308 to exchange for SF192,308 (SF192,308 ? $.48) = $92,308. At the end of 360 days, need $98,769 to repay the loan ($92,308 ? 1.07) = $98,770.

: 1 34. You are the treasurer of Arizona Corporation and must decide how to hedge (if at all) future receivables of 350,000 Australian dollars (A$) 180 days from now. Put options are available for a premium of $.02 per unit and an exercise price of $.50 per Australian dollar. The forecasted spot rate of the Australian dollar in 180 days is: Future Spot Rate $.46 $.48 $.52 Probability 20% 30% 50% The 90-day forward rate of the Australian dollar is $.50. What is the probability that the put option will be exercised (assuming Arizona purchased it)? a. 0%. b. 80%. c. 50%. d. none of the above

: C SOLUTION: Arizona will exercise when the exercise price is greater than the future spot (20% + 30% = 50%).

: 1 74. Jensen Co. expects to pay €50,000 in one month for its imports from France. It also expects to receive €200,000 for its exports to Belgium in one month. Jensen estimates the standard deviation of monthly percentage changes of the euro to be 2.5 percent over the last 50 months. Assume that these percentage changes are normally distributed. Using the value-at-risk (VAR) method based on a 97.5% confidence level, what is the maximum one month loss in dollars if the expected percentage change of the euro during next month is 2%? Assume that current spot rate of the euro (before considering the maximum one-month loss) is $1.35. a. ?$4,303 b. ?$7,830 c. ?$5,873 d. ?$1,958

: C SOLUTION: Net exposure = €200,000 ? €50,000 = €150,000 Maximum one-month loss: 2% ? (1.96 ? 2.5%) = ?2.9% €150,000 ? $1.35 ? (?0.029) = ?$5,873

: 1 27. 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____. a. $0. b. ?$7,500. c. $7,500. d. none of the above

: C SOLUTION: RCH(1) RCH(2) E[RCH]

: 1 23. Assume that Kramer Co. will receive SF800,000 in 90 days. Today's spot rate of the Swiss franc is $.62, and the 90-day forward rate is $.635. Kramer has developed the following probability distribution for the spot rate in 90 days: ($1.68 + $.04) ? ? 200,000 = $344,000 ($1.60 ? $.02) ? ? 700,000 = $1,106,000 C$600,000 ? $0.80 = $480,000 Possible Spot Rate in 90 Days $.61 $.63 $.64 $.65 Probability 10% 20% 40% 30% The probability that the forward hedge will result in more dollars received than not hedging is: a. 10%. b. 20%. c. 30%. d. 50%. e. 70%.

: C SOLUTION: The forward hedge will result in more dollars if the spot rate is less than the forward rate, which is true in the first two cases.

: 1 12. If a firm does not have foreign subsidiaries, it is not subject to ____. a. transaction exposure b. economic exposure c. A and B d. translation exposure

: D

: 1 15. A perfect hedge (full coverage) on translation exposure can usually be achieved when: a. using the money market hedge. b. using the forward hedge. c. using the futures hedge. d. none of the above, since a perfect hedge is nearly impossible.

: D

: 1 18. Which of the following firms is not exposed to translation exposure? a. Firm X, with a fully owned subsidiary that periodically remits earnings generated in Great Britain to the U.S.-based parent. b. Firm Y, with a fully owned subsidiary that periodically generates foreign losses in Sweden. The parent covers at least some of these losses. c. Firm Z, with a fully owned subsidiary that generates substantial earnings in Germany. The subsidiary never remits earnings but reinvests them in Germany. d. All of the above firms are exposed to translation exposure.

: D

: 1 19. Assume that your firm is an importer of Mexican chairs denominated in pesos. Your competition is mainly U.S. producers of chairs. You wish to assess the relationship between the percentage change in its stock price (SPt) and the percentage change in the peso's value relative to the dollar (PESOt). SPt is the dependent variable. You apply the regression model to an earlier subperiod and a more recent subperiod. In the recent subperiod, you increased your importing volume. You should expect that the regression coefficient in the PESOt variable would be ____ in the first subperiod and ____ in the second subperiod. a. negative; positive b. positive; positive c. positive; negative d. negative; negative

: D

: 1 3. Whitewater Co. is a U.S. company with sales to Canada amounting to C$8 million. Its cost of materials attributable to the purchase of Canadian goods is C$6 million. Its interest expense on Canadian loans is C$4 million. Given these exact figures above, the dollar value of Whitewater's "earnings before interest and taxes" would ____ if the Canadian dollar appreciates; the dollar value of Whitewater's cash flows would ____ if the Canadian dollar appreciates. a. increase; increase b. decrease; increase c. decrease; decrease d. increase; decrease e. increase; be unaffected

: D

: 1 32. Translation losses are ____, while gains on forward contracts used to hedge translation exposure are ____. a. tax deductible; not taxed b. not tax deductible; not taxed c. not tax deductible; taxed d. tax deductible; taxed

: D

: 1 36. Which of the following is the least effective way of hedging exposure in the long run? a. long-term forward contract. b. currency swap. c. parallel loan. d. money market hedge.

: D

: 1 4. Sycamore (a U.S. firm) has no subsidiaries and presently has sales to Mexican customers amounting to MXP98 million, while its peso-denominated expenses amount to MXP41 million. If it shifts its material orders from its Mexican suppliers to U.S. suppliers, it could reduce peso-denominated expenses by MXP12 million and increase dollar-denominated expenses by $800,000. This strategy would ____ the Sycamore's exposure to changes in the peso's movements against the U.S. dollar. Regardless of whether the firm shifts expenses, it is likely to perform better when the peso is valued ____ relative to the dollar. a. reduce; high b. reduce; low c. increase; low d. increase; high

: D

: 1 46. If a U.S. firm has much more revenue than expenses denominated in euros, the firm will likely ____ if the euro ____. a. benefit; weakens b. be unaffected; weakens c. be unaffected; strengthens d. benefit; strengthens

: D

: 1 48. To hedge a contingent exposure, in which an MNC's exposure is contingent on a specific event occurring, the appropriate hedge would be a(n) ____ hedge. a. money market b. futures c. forward d. options

: D

: 1 50. The ____ does not represent an obligation. a. long-term forward contract b. currency swap c. parallel loan d. currency option

: D

: 1 6. Rockford Co. is a U.S. manufacturing firm that produces goods in the U.S. and sells all products to retail stores in the U.K.; the goods are denominated in pounds. It finances a small portion of its business with pound-denominated loans from British banks. Which of the following is true? (Assume that the amount of products to be sold is guaranteed by contracts.) a. The dollar value of sales is higher if the pound depreciates against the dollar. b. The dollar value of sales is unaffected by the pound's exchange rate. c. A and B d. None of the above

: D

: 1 6. Which of the following reflects a hedge of net receivables in British pounds by a U.S. firm? a. purchase a currency put option in British pounds. b. sell pounds forward. c. borrow U.S. dollars, convert them to pounds, and invest them in a British pound deposit. d. A and B

: D

: 1 61. Thornton Corporation has extensive liabilities denominated in Cyprus pounds resulting from imports from Cyprus. However, Thornton's revenues are denominated solely in U.S. dollars. Which of the following is probably not true? a. Thornton would benefit from a depreciation of the Cyprus pound. b. Thornton has at least some transaction exposure. c. Thornton has at least some economic exposure. d. Thornton has at least some translation exposure. e. All of the above are true.

: D

: 1 66. Jenco Co. imports raw materials from Japan, invoiced in U.S. dollars. The price it pays is not expected to change for the next several years. If the Japanese yen appreciates, its imports from Japan will probably ____ and if the Japanese yen depreciates, its imports from Japan will probably ____. a. increase; decrease b. decrease; increase c. increase; stay the same d. stay the same; stay the same

: D

: 1 69. Johnson Co. has 1,000,000 euros as payables due in 30 days, and is certain that euro is going to appreciate substantially over time. Assuming the firm is correct, the ideal strategy is to: a. sell euros forward b. purchase euro currency put options. c. purchase euro currency call options. d. purchase euros forward. e. remain unhedged.

: D

: 1 7. If a U.S. firm's expenses are more susceptible to exchange rate movements than revenue, the firm will ____ if the dollar ____. a. benefit; weakens b. be unaffected; weakens c. be unaffected; strengthens d. benefit; strengthens

: D

: 1 7. Which of the following reflects a hedge of net payables on British pounds by a U.S. firm? a. purchase a currency put option in British pounds. b. sell pounds forward. c. sell a currency call option in British pounds. d. borrow U.S. dollars, convert them to pounds, and invest them in a British pound deposit. e. A and B

: D

: 1 72. You are the treasurer of Montana Corporation and must decide how to hedge (if at all) future payables of 1,000,000 Japanese yen 90 days from now. Call options are available with a premium of $.01 per unit and an exercise price of $.01031 per Japanese yen. The forecasted spot rate of the Japanese yen in 90 days is: Future Spot Rate $.01035 $.01032 $.01030 $.01029 Probability 20% 20% 30% 30% The 90-day forward rate of the Japanese yen is $.01033. What is the probability that the call option will be exercised (assuming Montana purchased it)? a. 30% b. 60% c. 20% d. 40%

: D

: 1 75. Lazer Co. is a U.S. firm that exports computers to Belgium invoiced in euros and to Italy invoiced in dollars. Additionally, Lazer Co. has a subsidiary in Korea that produces computers in South Korea and sells them there. Lazer also has competitors in different countries. Lazer Co. is subject to: a. transaction exposure. b. economic exposure. c. translation exposure. d. all of the above.

: D

: 1 76. Lampon Co. is a U.S. firm that has a subsidiary in Hong Kong that produces light fixtures and sells them to Japan, denominated in Japanese yen. Its subsidiary pays all of its expenses, including the cost of goods sold, in U.S. dollars. The Hong Kong dollar is pegged to the U.S. dollar. If the Japanese yen appreciates against the U.S. dollar, the Hong Kong subsidiary's revenue will ____, and its expenses will ____. a. increase; decrease b. decrease; remain unchanged c. decrease; increase d. increase; remain unchanged

: D

: 1 8. If Lazer Co. desired to lock in the maximum it would have to pay for its net payables in euros but wanted to be able to capitalize if the euro depreciates substantially against the dollar by the time payment is to be made, the most appropriate hedge would be: a. a money market hedge. b. purchasing euro put options. c. a forward purchase of euros. d. purchasing euro call options. e. selling euro call options.

: D

: 1 8. Laketown Co. has some expenses and revenue in euros. If its expenses are more sensitive to exchange rate movements than revenue, it could reduce economic exposure by ____. If its revenues are more sensitive than expenses, it could reduce economic exposure by ____. a. decreasing foreign revenues; decreasing foreign expenses b. decreasing foreign revenues; increasing foreign expenses c. increasing foreign revenues; decreasing foreign revenues d. decreasing foreign expenses; increasing foreign revenues

: D

: 1 20. Your company will receive C$600,000 in 90 days. The 90-day forward rate in the Canadian dollar is $.80. If you use a forward hedge, you will: a. receive $750,000 today. b. receive $750,000 in 90 days. c. pay $750,000 in 90 days. d. receive $480,000 today. e. receive $480,000 in 90 days.

: E SOLUTION:

: 1 Exhibit 10-1 Cerra Co. expects to receive 5 million euros tomorrow as a result of selling goods to the Netherlands. Cerra estimates the standard deviation of daily percentage changes of the euro to be 1 percent over the last 100 days. Assume that these percentage changes are normally distributed. Use the value-at-risk (VAR) method based on a 95% confidence level for the following question(s). 28. Refer to Exhibit 10-1. What is the maximum one-day loss if the expected percentage change of the euro tomorrow is 0.5%? a. ?0.5% b. ?2.2% c. ?1.5% d. ?1.2%

: D SOLUTION:

: 1 Exhibit 11-1 U.S. 6% 5% Jordan 5% 4% 360-day borrowing rate 360-day deposit rate 29. Refer to Exhibit 11-1. Perkins Corp. will receive 250,000 Jordanian dinar (JOD) in 360 days. The current spot rate of the dinar is $1.48, while the 360-day forward rate is $1.50. How much will Perkins receive in 360 days from implementing a money market hedge (assume any receipts before the date of the receivable are invested)? a. $377,115. b. $373,558. c. $363,019. d. $370,000.

: D SOLUTION: 1. Borrow JOD238,095.24 (JOD250,000/1.05) = JOD238,095.24. 2. 3. Convert JOD238,095.24 to $352,380.95 (JOD238,095.24 ? $1.48) = $352,380.95. Invest $352,380.95 at 5% to accumulate $370,000 ($352,280.95 ? 1.05) = $370,000.

: 1 4. Assume the following information: U.S. deposit rate for 1 year U.S. borrowing rate for 1 year New Zealand deposit rate for 1 year New Zealand borrowing rate for 1 year New Zealand dollar forward rate for 1 year New Zealand dollar spot rate = = = = = = 11% 12% 8% 10% $.40 $.39 SF600,000 ? $.40 = $240,000 Also assume that a U.S. exporter denominates its New Zealand exports in NZ$ and expects to receive NZ$600,000 in 1 year. You are a consultant for this firm. Using the information above, what will be the approximate value of these exports in 1 year in U.S. dollars given that the firm executes a money market hedge? a. $238,584. b. $240,000. c. $234,000. d. $236,127.

: D SOLUTION: 1. Borrow NZ$545,455 (NZ$600,000/1.1) = NZ$545,455. 2. 3. Convert NZ$545,455 to $212,727 (at $.39 per NZ$). Invest $212,727 to accumulate $236,127 ($212,727 ? 1.11) = $236,127.

: 1 18. Assume that Parker Company will receive SF200,000 in 360 days. Assume the following interest rates: U.S. 7% 6% Switzerland 5% 4% 360-day borrowing rate 360-day deposit rate Assume the forward rate of the Swiss franc is $.50 and the spot rate of the Swiss franc is $.48. If Parker Company uses a money market hedge, it will receive ____ in 360 days. a. $101,904 b. $101,923 c. $98,769 d. $96,914 e. $92,307

: D SOLUTION: 1. Borrow SF190,476 (SF200,000/1.05) = SF190,476. 2. 3. Convert SF190,476 to $91,428 (SF190,476 ? $.48) = $91,428. Invest $91,428 at 6% to accumulate $96,914 ($91,428 ? 1.06) = $96,914.

: 1 73. Treck Co. expects to pay €200,000 in one month for its imports from Greece. It also expects to receive €250,000 for its exports to Italy in one month. Treck Co. estimates the standard deviation of monthly percentage changes of the euro to be 3 percent over the last 40 months. Assume that these percentage changes are normally distributed. Using the value-at-risk (VAR) method based on a 95% confidence level, what is the maximum one-month loss in dollars if the expected percentage change of the euro during next month is ?2%? Assume that the current spot rate of the euro (before considering the maximum one-month loss) is $1.23. a. ?$38,468 b. ?$21,371 c. ?$17,097 d. ?$4,274

: D SOLUTION: Net exposure = €250,000 ? €200,000 = €50,000 Maximum one-month loss: ?2% ? (1.65 ? 3%) = ?6.95% $1.23 ? (?.0695%) ? €50,000 = ?$4,274

: 1 25. Assume that Patton Co. will receive 100,000 New Zealand dollars (NZ$) in 180 days. Today's spot rate of the NZ$ is $.50, and the 180-day forward rate is $.51. A call option on NZ$ exists, with an exercise price of $.52, a premium of $.02, and a 180-day expiration date. A put option on NZ$ exists with an exercise price of $.51, a premium of $.02, and a 180-day expiration date. Patton Co. has developed the following probability distribution for the spot rate in 180 days: Possible Spot Rate in 90 Days $.48 $.49 $.55 Probability 10% 60% 30% The probability that the forward hedge will result in more U.S. dollars received than the options hedge is ____ (deduct the amount paid for the premium when estimating the U.S. dollars received on the options hedge). a. 10% b. 30% c. 40% d. 70% e. none of the above

: D SOLUTION: The put option will be exercised in the first two cases, resulting in an amount received per unit of $.51 ? $.02 = $.49. Thus, the forward hedge will result in more U.S. dollars received ($.51 per unit).

: 1 16. A firm produces goods for which substitute goods are produced in all countries. Appreciation of the firm's local currency should: a. increase local sales as it reduces foreign competition in local markets. b. increase the firm's exports denominated in the local currency. c. increase the returns earned on the firm's foreign bank deposits. d. increase the firm's cash outflow required to pay for imported supplies denominated in a foreign currency. e. none of the above

: E

: 1 17. A firm produces goods for which substitute goods are produced in all countries. Depreciation of the firm's local currency should: a. decrease local sales as foreign competition in local markets is reduced. b. decrease the firm's exports denominated in the local currency. c. decrease the returns earned on the firm's foreign bank deposits. d. decrease the firm's cash outflow required to pay for imported supplies denominated in a foreign currency. e. none of the above

: E

: 1 37. When a perfect hedge is not available to eliminate transaction exposure, the firm may consider methods to at least reduce exposure, such as ____. a. leading b. lagging c. cross-hedging d. currency diversification e. all of the above

: E

: 1 63. Campbell Company has a subsidiary located in Jamaica. The subsidiary has generated losses for the last five years and is expected to generate losses for the next ten years. Campbell is reluctant to divest of this subsidiary, however. Given this information, Campbell would ____ from a(n) ____ of the Jamaican dollar. a. benefit; appreciation b. benefit; depreciation c. not benefit; appreciation d. not benefit; depreciation e. B and C

: E

: 1 64. ____ is (are) a limitation of hedging translation exposure. a. Inaccurate earnings forecasts b. Inadequate forward contracts for some currencies c. Accounting distortions d. Increased transaction exposure e. All of the above

: E

: 1 70. Linden Co. has 1,000,000 euros as payables due in 90 days, and is certain that euro is going to depreciate substantially over time. Assuming the firm is correct, the ideal strategy is to: a. sell euros forward b. purchase euro currency put options. c. purchase euro currency call options. d. purchase euros forward. e. remain unhedged

: E

: 1 78. If interest rate parity exists, and transaction costs do not exist, the option hedge will yield the same results as no hedge. a. True b. False

: F

: 1 22. Assume that Smith Corporation will need to purchase 200,000 British pounds in 90 days. A call option exists on British pounds with an exercise price of $1.68, a 90-day expiration date, and a premium of $.04. A put option exists on British pounds, with an exercise price of $1.69, a 90-day expiration date, and a premium of $.03. Smith Corporation plans to purchase options to cover its future payables. It will exercise the option in 90 days (if at all). It expects the spot rate of the pound to be $1.76 in 90 days. Determine the amount of dollars it will pay for the payables, including the amount paid for the option premium. a. $360,000. b. $338,000. c. $332,000. d. $336,000. e. $344,000.

: E SOLUTION:

: 1 12. Use the following information to calculate the dollar cost of using a money market hedge to hedge 200,000 pounds of payables due in 180 days. Assume the firm has no excess cash. Assume the spot rate of the pound is $2.02, the 180-day forward rate is $2.00. The British interest rate is 5%, and the U.S. interest rate is 4% over the 180-day period. a. $391,210. b. $396,190. c. $388,210. d. $384,761. e. none of the above

: E SOLUTION: 1. Need to invest ? 190,476 (? 200,000/1.05) = ? 190,476. 2. 3. Need to exchange $384,762 to obtain the ? 190,476 (? 190,476 ? $2.02) = $384,762. At the end of 180 days, need $400,152 to repay loan ($384,762 ? 1.04) = $400,152.

: 1 20. A set of currency cash inflows is more volatile if the correlations are low. a. True b. False

: F

: 1 25. Assume that an MNC's cash flows are positively related to the movements in a foreign currency. If the MNC expects the foreign currency to weaken, it could purchase the currency forward to reduce its degree of economic exposure. a. True b. False

: F

: 1 34. A foreign subsidiary with more susceptible expenses than revenue to exchange rate movements will be favorably affected by an appreciation of the foreign currency. a. True b. False

: F

: 1 35. U.S. firms can attempt to hedge their translation exposure of their European subsidiaries with a forward purchase of euros. a. True b. False

: F

: 1 36. Hedging translation exposure with forward contracts can backfire if the currency being hedged depreciates. a. True b. False

: F

: 1 39. All MNCs are subject to translation exposure. a. True b. False

: F

: 1 41. The management of economic exposure is normally focused completely on transactions that will occur in the next three months. a. True b. False

: F

: 1 42. Transaction exposure results when an MNC translates each subsidiary's financial data to its home currency for consolidated financial statements. a. True b. False

: F

: 1 45. A firm's transaction exposure in any foreign currency is based solely on the size of its open position in that currency. a. True b. False

: F

: 1 46. Two highly negatively correlated currencies move in tandem almost as if they are the same currency. a. True b. False

: F

: 1 47. If interest rate parity exists, the forward hedge will always outperform the money market hedge. a. True b. False

: F

: 1 47. The transaction exposure of two inflow currencies is offset when the correlation between the currencies is high. a. True b. False

: F

: 1 51. All MNCs are subject to transaction exposure. a. True b. False

: F

: 1 51. An MNC can avoid translation exposure if its earnings are not remitted by the foreign subsidiary to the parent. a. True b. False

: F

: 1 51. Hedging the position of individual subsidiaries is generally necessary, even if the overall performance of the MNC is already insulated by the offsetting positions between subsidiaries. a. True b. False

: F

: 1 52. Assume a regression model in which the dependent variable is the firm's stock price percentage change, and the independent variable is percentage change in the foreign currency. The coefficient is negative. This implies that the company's stock price increases if the foreign currency appreciates. a. True b. False

: F

: 1 54. To hedge a payable position with a currency option hedge, an MNC would write a call option. a. True b. False

: F

: 1 55. MNCs generally do not need to hedge because shareholders can hedge their own risk. a. True b. False

: F

: 1 56. Firms with more in foreign costs than in foreign revenues will be favorably affected by a stronger foreign currency. a. True b. False

: F

: 1 56. When a foreign currency has a greater impact on cash outflows than on cash inflows, one possibility in restructuring operations is to reduce foreign sales. a. True b. False

: F

: 1 57. The exposure of an MNC's consolidated financial statements to exchange rate fluctuations is known as transaction exposure. a. True b. False

: F

: 1 57. To hedge payables with futures, an MNC would sell futures; to hedge receivables with futures, an MNC would buy futures. a. True b. False

: F

: 1 58. When the real cost of hedging is positive, this implies that hedging was more favorable than not hedging. a. True b. False

: F

: 1 59. A futures hedge involves taking a money market position to cover a future payables or receivables position. a. True b. False

: F

: 1 59. A reduction in hedging will probably reduce transaction exposure. a. True b. False

: F

: 1 60. If interest rate parity (IRP) exists, then the money market hedge will yield the same result as the options hedge. a. True b. False

: F

: 1 61. The VAR method assumes that the volatility (standard deviation) of exchange rate movements changes over time. a. True b. False

: F

: 1 61. The price at which a currency put option allows the holder to sell a currency is called the settlement price. a. True b. False

: F

Assume the following information: Predicted Value of New Zealand Dollar $.52 .54 .44 .51 Realized Value of New Zealand Dollar $.50 .60 .40 .50 Period 1 2 3 4 Given this information, the mean absolute forecast error as a percentage of the realized value is about: a. 1.5%. b. 26%. c. 6%. d. 6.5%. e. none of the above

D. 6.50% SOLUTION: [|$.52 ? $.50|/$.50 + |$.54 ? $.60|/$.60 + |$.44 ? $.40|/$.40 + |$.51 ? $.50|/$.50)]/4 = [.04 + .10 + .10 + .02]/4 = .065 = 6.50%

Which of the following is not a method of forecasting exchange rate volatility? a. Using the absolute forecast error as a percentage of the realized value to improve your forecast. b. Using the volatility of historical exchange rate movements as a forecast for the future. c. Using a time series of volatility patterns in previous periods. d. Deriving the exchange rate's implied standard deviation from the currency option pricing model.

a. Using the absolute forecast error as a percentage of the realized value to improve your forecast

Which of the following is not a forecasting technique mentioned in your text? a. accounting-based forecasting. b. technical forecasting. c. fundamental forecasting. d. market-based forecasting.

a. accounting-based forecasting

If an MNC invests excess cash in a foreign county, it would like the foreign currency to ____; if an MNC issues bonds denominated in a foreign currency, it would like the foreign currency to ____. a. appreciate; depreciate b. appreciate; appreciate c. depreciate; depreciate d. depreciate; appreciate

a. appreciate; depreciate

Assume that U.S. annual inflation equals 8%, while Japanese annual inflation equals 5%. If purchasing power parity is used to forecast the future spot rate, the forecast would reflect an expectation of: a. appreciation of yen's value over the next year. b. depreciation of yen's value over the next year. c. no change in yen's value over the next year. d. information about interest rates is needed to answer this question.

a. appreciation of yen's value over the next year

Magent Co. is a U.S. company that has exposure to the Swiss francs (SF) and Danish kroner (DK). It has net inflows of SF200 million and net outflows of DK500 million. The present exchange rate of the SF is about $.40 while the present exchange rate of the DK is $.10. Magent Co. has not hedged these positions. The SF and DK are highly correlated in their movements against the dollar. If the dollar weakens, then Magent Co. will: a. benefit, because the dollar value of its SF position exceeds the dollar value of its DK position. b. benefit, because the dollar value of its DK position exceeds the dollar value of its SF position. c. be adversely affected, because the dollar value of its SF position exceeds the dollar value of its DK position. d. be adversely affected, because the dollar value of its DK position exceeds the dollar value of its SF position.

a. benefit, because the dollar value of its SF position exceeds the dollar value of its DK position.

Assume that the U.S. interest rate is 11 percent, while Australia's one-year interest rate is 12 percent. Assume interest rate parity holds. If the one-year forward rate of the Australian dollar was used to forecast the future spot rate, the forecast would reflect an expectation of: a. depreciation in the Australian dollar's value over the next year. b. appreciation in the Australian dollar's value over the next year. c. no change in the Australian dollar's value over the next year. d. information on future interest rates is needed to answer this question.

a. depreciation in the Australian dollar's value over the next year

: 1 14. Generally, MNCs with less foreign costs than foreign revenues will be ____ affected by a ____ foreign currency. a. favorably; stronger b. not; stronger c. favorably; weaker d. not; weaker e. B and D

a. favorably; stronger

Which of the following forecasting techniques would best represent the use of relationships between economic factors and exchange rate movements to forecast the future exchange rate? a. fundamental forecasting. b. market-based forecasting. c. technical forecasting. d. mixed forecasting.

a. fundamental forecasting

If speculators expect the spot rate of the yen in 60 days to be ____ than the 60-day forward rate on the yen, they will ____ the yen forward and put ____ pressure on the yen's forward rate. a. higher; buy; upward b. higher; sell; downward c. higher; sell; upward d. lower; buy; upward

a. higher; buy; upward

When the value from the prior period of an influential factor affects the forecast in the future period, this is an example of a(n): a. lagged input. b. instantaneous input. c. simultaneous input. d. B and C

a. lagged input

Transaction exposure reflects: a. the exposure of a firm's international contractual transactions to exchange rate fluctuations. b. the exposure of a firm's local currency value to transactions between foreign exchange traders. c. the exposure of a firm's financial statements to exchange rate fluctuations. d. the exposure of a firm's cash flows to exchange rate fluctuations.

a. the exposure of a firm's international contractual transactions to exchange rate fluctuations

Which of the following is not a method of forecasting exchange rate volatility? a. using the absolute forecast error as a percentage of the realized value. b. using the volatility of historical exchange rate movements as a forecast for the future. c. using a time series of volatility patterns in previous periods. d. deriving the exchange rate's implied standard deviation from the currency option pricing model.

a. using the absolute forecast error as a percentage of the realized value

If today's exchange rate reflects any historical trends in Canadian dollar exchange rate movements, but not all relevant public information, then the Canadian dollar market is: a. weak-form efficient. b. semistrong-form efficient. c. strong-form efficient. d. all of the above.

a. weak-form efficient

: 1 12. A U.S. MNC has the equivalent of $1 million cash outflows in each of two highly negatively correlated currencies. During ____ dollar cycles, cash outflows are ____. a. b. c. d. weak; somewhat stable weak; favorably affected weak; adversely affected none of the above

a. weak; somewhat stable

Assume a forecasting model uses inflation differentials and interest rate differentials to forecast the exchange rate. Assume the regression coefficient of the interest rate differential variable is ?.5, and the coefficient of the inflation differential variable is .4. Which of the following is true? a. The interest rate variable is inversely related to the exchange rate, and the inflation variable is directly (positively) related to the interest rate variable. b. The interest rate variable is inversely related to the exchange rate, and the inflation variable is directly related to the exchange rate. c. The interest rate variable is directly related to the exchange rate, and the inflation variable is directly related to the exchange rate. d. The interest rate variable is directly related to the exchange rate, and the inflation variable is directly related to the interest rate variable.

b. The interest rate variable is inversely related to the exchange rate, and the inflation variable is directly related to the exchange rate

Severus Co. has to pay 5 million Canadian dollars for supplies it recently received from Canada. Today, the Canadian dollar has appreciated by 2 percent against the U.S. dollar. Severus has determined that whenever the Canadian dollar appreciates against the U.S. dollar by more than 1 percent, it experiences a reversal of 40 percent on the following day. Based on this information, the Canadian dollar is expected to ____ tomorrow, and Severus would prefer to make payment ____. a. depreciate by .8%; today b. depreciate by .8%; tomorrow c. appreciate by .8%; today d. appreciate by .8%; tomorrow

b. depreciate by .8%; tomorrow

Small Corporation would like to forecast the value of the Cyprus pound (CYP) five years from now using forward rates. Unfortunately, Small is unable to obtain quotes for five-year forward contracts. However, Small observes that the five-year interest rate in the U.S. is 11%, while the Cyprus five-year interest rate is 15%. Based on this information, the Cyprus pound should ____ by ____% over the next five years. a. appreciate; 16.22 b. depreciate; 16.22 c. appreciate; 6.66 d. depreciate; 6.66 e. none of the above

b. depreciate; 16.22

Assume that U.S. interest rates are 6%, while British interest rates are 7%. If the international Fisher effect holds and is used to determine the future spot rate, the forecast would reflect an expectation of: a. appreciation of pound's value over the next year. b. depreciation of pound's value over the next year. c. no change in pound's value over the next year. d. not enough information to answer this question.

b. depreciation of pound's value over the next year

Sensitivity analysis allows for all of the following except: a. accountability for uncertainty. b. focus on a single point estimate of future exchange rates. c. development of a range of possible future values. d. consideration of alternative scenarios.

b. focus on a single point estimate of future exchange rates

Which of the following is not a limitation of fundamental forecasting? a. uncertain timing of impact. b. forecasts are needed for factors that have a lagged impact. c. omission of other relevant factors from the model. d. possible change in sensitivity of the forecasted variable to each factor over time. e. none of the above

b. forecasts are needed for factors that have a lagged impact.

Factors such as economic growth, inflation, and interest rates are an integral part of ____ forecasting. a. technical b. fundamental c. market-based d. none of the above

b. fundamental

Purchasing power parity is used in: a. technical forecasting. b. fundamental forecasting. c. market-based accounting. d. all of the above.

b. fundamental forecasting

If speculators expect the spot rate of the Canadian dollar in 30 days to be ____ than the 30-day forward rate on Canadian dollars, they will ____ Canadian dollars forward and put ____ pressure on the Canadian dollar forward rate. a. lower; sell; upward b. lower; sell; downward c. higher; sell; upward d. higher; sell; downward

b. lower; sell; downward

Which of the following forecasting techniques would best represent sole use of today's spot exchange rate of the euro to forecast the euro's future exchange rate? a. fundamental forecasting. b. market-based forecasting. c. technical forecasting. d. mixed forecasting.

b. market-based forecasting

Which of the following forecasting techniques would best represent the use of today's forward exchange rate to forecast the future exchange rate? a. fundamental forecasting. b. market-based forecasting. c. technical forecasting. d. mixed forecasting.

b. market-based forecasting

If a particular currency is consistently declining substantially over time, then a market-based forecast will usually have: a. underestimated the future exchange rates over time. b. overestimated the future exchange rates over time. c. forecasted future exchange rates accurately. d. forecasted future exchange rates inaccurately but without any bias toward consistent underestimating or overestimating.

b. overestimated the future exchange rates over time.

Assume that U.S. interest rate for the next three years is 5%, 6%, and 7% respectively. Also assume that Canadian interest rates for the next three years are 3%, 6%, 9%. The current Canadian spot rate is $.840. What is the approximate three-year forecast of Canadian dollar spot rate if the three-year forward rate is used as a forecast? a. $.840 b. $.890 c. $.856 d. $.854

c. $.856

The U.S. inflation rate is expected to be 4 percent over the next year, while the European inflation rate is expected to be 3 percent. The current spot rate of the euro is $1.03. Using purchasing power parity, the expected spot rate at the end of one year is $____. a. 1.02 b. 1.03 c. 1.04 d. none of the above

c. 1.04

There is a 20% probability that the Australian dollar will change by ____, and an 80% probability it will change by ____. a. 4.5%; 6.1%; b. 6.1%; 4.5% c. 4.5%; 5.3% d. None of the above

c. 4.5%; 5.3%

Silicon Co. has forecasted the Canadian dollar for the most recent period to be $0.73. The realized value of the Canadian dollar in the most recent period was $0.80. Thus, the absolute forecast error as a percentage of the realized value was ____%. a. 9.6 b. 9.6 c. 8.8 d. 8.8

c. 8.8

If a foreign country's interest rate is similar to the U.S. rate, the forward rate premium or discount will be ____, meaning that the forward rate and spot rate will provide ____ forecasts. a. substantial; similar b. substantial; very different c. close to zero; similar d. close to zero; very different

c. close to zero; similar

A regression model was applied to explain movements in the Canadian dollar's value over time. The coefficient for the inflation differential between the U.S. and Canada was ?0.2. The coefficient of the interest rate differential between the U.S. and Canada produced a coefficient of 0.8. Thus, the Canadian dollar depreciates when the inflation differential ____ and the interest rate differential ____. a. increases; increases b. decreases; increases c. increases; decreases d. increases; decreases

c. increases; decreases

The absolute forecast error of a currency is ____, on average, in periods when the currency is more ____. a. lower; volatile b. higher; stable c. lower; stable d. none of the above

c. lower; stable

Which of the following forecasting techniques would best represent the sole use of the pattern of historical currency values of the euro to predict the euro's future currency value? a. fundamental forecasting. b. market-based forecasting. c. technical forecasting. d. mixed forecasting.

c. technical forecasting

Translation exposure reflects: a. the exposure of a firm's international contractual transactions to exchange rate fluctuations. b. the exposure of a firm's local currency value to transactions between foreign exchange traders. c. the exposure of a firm's financial statements to exchange rate fluctuations. d. the exposure of a firm's cash flows to exchange rate fluctuations.

c. the exposure of a firm's financial statements to exchange rate fluctuations

: 1 15. When the dollar strengthens, the reported consolidated earnings of U.S.-based MNCs are ____ affected by translation exposure. When the dollar weakens, the reported consolidated earnings are ____ affected. a. favorably; favorably affected but by a smaller degree b. favorably; favorably affected by a higher degree c. unfavorably; favorably affected d. favorably; unfavorably affected

c. unfavorably; favorably affected

The most recent quarterly percentage change in the inflation differential between the U.S. and Europe was 2 percent, while the most recent quarterly percentage change in the income growth differential between the U.S. and Europe was ?1 percent. Based on this information, the forecast for the euro is a(n) ____ of ____%. a. appreciation; 3.4 b. depreciation; 3.4 c. appreciation; 0.7 d. appreciation; 1.2

d. appreciation; 1.2

Economic exposure refers to: a. the exposure of a firm's international contractual transactions to exchange rate fluctuations. b. the exposure of a firm's local currency value to transactions between foreign exchange traders. c. the exposure of a firm's financial statements to exchange rate fluctuations. d. the exposure of a firm's cash flows to exchange rate fluctuations. e. the exposure of a country's economy (specifically GNP) to exchange rate fluctuations.

d. the exposure of a firm's cash flows to exchange rate fluctuations