Question 1

The price at which a currency put option allows the holder to sell a currency is called the settlement price.

Accepted Answer

The price at which a currency put option allows the holder to sell a currency is called the strike price, not the settlement price. The settlement price is the final price at which a derivative contract is settled.

Question 2

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.

Accepted Answer

Zero transaction costs and accurate estimation of the spot rate imply that the forward rate and the actual spot rate will be the same, making the cost of hedging payables zero.

Question 3

Quasik ltd will be receiving $300,000 in 90 days. Currently, a 90-day call option with an exercise price of £0.55 and a premium of £0.01 is available. Also, a 90-day put option with an exercise price of £0.54 and a premium of £0.01 is available. Quasik plans to purchase options to hedge its receivable position. Assuming that the spot rate in 90 days is £0.51, what is the net amount received from the currency option hedge?
A) £150,000
B) £159,000
C) £168,000
D) £162,000

Accepted Answer

Quasik should buy the put option to hedge against the currency depreciation. The exercise price is £0.54, and the premium is £0.01. The effective rate is £0.53 (£0.54 - £0.01). Therefore, the net amount received is $300,000 * £0.53 = £159,000.

Question 4

Your company will receive C$600,000 in 90 days. The 90-day forward rate in the Canadian dollar is £0.47. If you use a forward hedge, you will (to the nearest £):
A) receive £750,000 today.
B) receive £750,000 in 90 days.
C) pay £1,276,595 in 90 days.
D) receive £1,276,595 in 90 days.
E) receive £282,000 in 90 days.

Accepted Answer

To hedge using the forward rate, multiply the amount in Canadian dollars by the forward rate: C$600,000 * £0.47 = £282,000.

Question 5

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.

Accepted Answer

If the forward rate is accurate, the future spot rate will not deviate significantly from it, meaning that the cost of hedging will be zero.

Question 6

A parallel loan means that one company takes out two different loans in two different currencies in order to hedge the transaction exposure.

Accepted Answer

A parallel loan involves two companies in different countries borrowing each other's currency to hedge against exchange rate fluctuations, not one company taking out two loans.

Question 7

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

Accepted Answer

When an MNC's exposure is contingent on a specific event occurring, such as a merger or acquisition, the most appropriate hedge would be options. Options give the MNC the right, but not the obligation, to buy or sell a specific asset or currency at a certain price on or before a certain date. This allows the MNC to limit its potential losses while still taking advantage of any potential gains that may arise from the contingent event.

Question 8

A futures hedge involves taking a money market position to cover a future payables or receivables position.

Accepted Answer

A futures hedge involves taking a position in a futures contract to offset potential losses or gains in the cash market due to price fluctuations, not a money market position.

Question 9

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.

Accepted Answer

Cross-hedging involves using a highly correlated currency to hedge an exposure in a foreign currency for which no forward contract is available. This is done because the highly correlated currency has a similar exposure to the foreign currency and its forward contract can be used as a substitute for the unavailable one.

Question 10

Assume zero transaction costs. If the 180-day forward rate is an accurate estimate of the spot rate 180 days from now, then the real cost of hedging receivables 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.

Accepted Answer

If the forward rate is an accurate estimate of the spot rate, then there is no cost for hedging as there is no difference between the rate at which funds are received and the rate at which they are exchanged. Hence the cost of hedging receivables is zero.

Question 11

FAB plc will need $200,000 in 90 days to cover a payable position. Currently, a 90-day call option with an exercise price of £0.57 and a premium of £0.01 is available. Also, a 90-day put option with an exercise price of £0.55 and a premium of £0.01 is available. FAB plans to purchase options to hedge its payable position. Assuming that the spot rate in 90 days is £0.52, what is the net amount paid, assuming FAB wishes to minimize its cost?
A) £106,000
B) £102,000
C) £116,000
D) £112,000

Accepted Answer

The net amount paid is the premium paid for the put option, which is £102,000 (200,000 x 0.01 x 90/360).

Question 12

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.

Accepted Answer

A put option is a financial contract that gives the owner the right, but not the obligation, to sell an underlying asset (such as a currency) at a predetermined price (strike price) within a specified period of time. It does not involve swaps of currencies, but rather the potential sale of a currency at a certain price.

Question 13

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

Accepted Answer

To hedge a payable in a foreign currency, a firm should purchase a currency futures contract for that currency. This will allow the firm to lock in a future exchange rate and mitigate the risk of currency fluctuations affecting the value of the payable. Choice A is incorrect because purchasing a currency futures contract would increase, rather than hedge, the risk of a foreign currency receivable. Choice B is incorrect because selling a currency futures contract would increase, rather than hedge, the risk of a foreign currency payable. Choice D is incorrect because there is a correct answer (C).

Question 14

Money ltd. 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 MYR 1,500,000. The 30-day forward rate is £0.14. Furthermore, Money's financial center has indicated that the possible values of the Malaysian ringgit at the end of next month are £0.12 and £0.15, with probabilities of 0.30 and 0.70, respectively. Based on this information, what is the expected real cost of hedging receivables?
A) £0 hedging the same as no hedging
B) -£1,500 - hedging worthwhile
C) £1,500 - hedging not worthwhile
D) None of the above

Accepted Answer

The answer of Money ltd. frequently uses a forward hedge...

Question 15

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

Accepted Answer

Leading and lagging involve shifting the timing of payments to either collect receivables earlier or delay payments for payables, which can help reduce transaction exposure. Cross-hedging involves using a related currency or financial instrument to hedge against the currency being used in the transaction. Currency diversification involves holding a diversified portfolio of currencies to reduce overall exposure to any one currency. All of these methods can be used to reduce transaction exposure when a perfect hedge is not available.

Question 16

Which of the following reflects a hedge of net receivables in British pounds by a US firm?
A) Purchase a currency put option in British pounds.
B) Sell pounds forward.
C) Borrow US dollars, convert them to pounds, and invest them in a British pound deposit.
D) A and B

Accepted Answer

Selling pounds forward is a hedge of net receivables in British pounds because it locks in the exchange rate at which the receivables will be converted into US dollars. Purchasing a currency put option in British pounds is also a hedge of net receivables in British pounds because it gives the firm the right to sell British pounds at a specified exchange rate, which protects the firm from a decline in the value of the British pound.

Question 17

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.

Accepted Answer

It is possible for offsetting effects to occur between subsidiaries, which may mitigate the need to hedge the position of each individual subsidiary.

Question 18

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

Accepted Answer

Forward contract hedges are commonly used for large transactions, as they provide more flexibility in terms of contract terms and settlement arrangements. Futures contracts are generally standardized and traded on exchanges, making them more suitable for smaller transactions where liquidity and price transparency are important.

Question 19

A money market hedge involves taking a money market position to cover a future payables or receivables position.

Accepted Answer

A money market hedge involves taking a position in the money market (such as borrowing or investing) to offset the risk of future payables or receivables in a foreign currency.

Question 20

Samesong Inc. needs 1,000,000 euros in 30 days. Samsong can earn 5 per cent annualized on a German security. The current spot rate for the euro is £0.67. Samesong can borrow funds in the UK at an annualized interest rate of 6 percent. If Samsong uses a money market hedge, how much should it borrow in the UK?
A) £652,381
B) £667,220
C) £643,396
D) £695,025

Accepted Answer

The answer of Samesong Inc. needs 1,000,000 euros in 30...

Quiz 11: Managing Transaction Exposure

The price at which a currency put option allows the holder to sell a currency is called the settlement price.

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:

Your company will receive C$600,000 in 90 days. The 90-day forward rate in the Canadian dollar is £0.47. If you use a forward hedge, you will (to the nearest £) :

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 parallel loan means that one company takes out two different loans in two different currencies in order to hedge the transaction exposure.

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 futures hedge involves taking a money market position to cover a future payables or receivables position.

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.

Assume zero transaction costs. If the 180-day forward rate is an accurate estimate of the spot rate 180 days from now, then the real cost of hedging receivables will be:

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.

To hedge a in a foreign currency, a firm may a currency futures contract for that currency.

When a perfect hedge is not available to eliminate transaction exposure, the firm may consider methods to at least reduce exposure, such as ____.

Which of the following reflects a hedge of net receivables in British pounds by a US firm?

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 forward contract hedge is very similar to a futures contract hedge, except that contracts are commonly used for transactions.

A money market hedge involves taking a money market position to cover a future payables or receivables position.