A U.S.firm holds an asset in Great Britain and faces the following scenario:
$\begin{array}{l}\begin{array} { l } &\text { State 1}\\\text { Probability } & 25 \% \\\text { Spotrate } & \$ 2.20 / £ \\P^{*} & £ 1,800 \\P & \$ 4,500\end{array}\begin{array} { l } \text { State 2}&\text { State 3}\\50 \% & 25 \% \\\$ 2.00/£ & \$ 1.60 / £ \\£ 2,250 & £ 2,812.50 \\\$ 4,500 & \$ 4,500\end{array}\end{array}$
where,
P^* = Pound sterling price of the asset held by the U.S.firm
P = Dollar price of the same asset
Which of the following would be an effective hedge?

Question

A U.S.firm holds an asset in Great Britain and faces the following scenario:

\begin{array}{l}\begin{array} { l } &\text { State 1}\\\text { Probability } & 25 \% \\\text { Spotrate } & \$ 2.20 / £ \\P^{*} & £ 1,800 \\P & \$ 4,500\end{array}\begin{array} { l } \text { State 2}&\text { State 3}\\50 \% & 25 \% \\\$ 2.00/£ & \$ 1.60 / £ \\£ 2,250 & £ 2,812.50 \\\$ 4,500 & \$ 4,500\end{array}\end{array}

where,
P^* = Pound sterling price of the asset held by the U.S.firm
P = Dollar price of the same asset
Which of the following would be an effective hedge?

Quizplus · Accepted Answer

The effective hedge amount should match the expected value of the asset in pounds, which can be calculated as the sum of the products of each state's probability and its corresponding asset value in pounds. The calculations for the expected value are not provided in the options, and none of the given amounts match an appropriate calculation for hedging based on the information provided.

A USfirm Holds an Asset in Great Britain and Faces the the Following