Your firm is a Swiss importer of bicycles.You have placed an order with a British firm for £1,000,000 worth of bicycles.Payment (in pounds sterling)is due in 12 months.Detail a strategy using futures contracts that will hedge your exchange rate risk.Have an estimate of how many contracts of what type and maturity.

Question

Quizplus · Accepted Answer

The importer wants to hedge the exchange rate risk associated with the payment to be made in pounds sterling. To hedge this risk, the importer can go long on pound futures contracts as they want to receive pounds in the future. Simultaneously, they should go short on Swiss Francs to avoid currency fluctuation risks with Swiss Francs. Therefore, going long on 100 12-month pound futures contracts and short on 200 12-month SFr. futures contracts would be an ideal hedging strategy. It is always recommended to go short on the currency that the firm does not want to receive in the future. Thus, option A, C, and D can be eliminated. Option E cannot be considered as none of the above given strategies offer complete hedging against the exchange rate risk.

Your Firm Is a Swiss Importer of Bicycles