Your firm is a U.K.-based exporter of bicycles. You have sold an order to a Swiss firm for SFr. 1,000,000 worth of bicycles. Payment from the Swiss firm (in Swiss francs) is due in 12 months. Use a money market hedge to redenominate this one-year receivable into a euro-denominated receivable with a one-year maturity. The following were computed without rounding. Select the answer closest to yours.
A)£500,000
B)£464,874.41
C)£446,730.77
D)£509,900.99

Question

Your firm is a U.K.-based exporter of bicycles. You have sold an order to a Swiss firm for SFr. 1,000,000 worth of bicycles. Payment from the Swiss firm (in Swiss francs) is due in 12 months. Use a money market hedge to redenominate this one-year receivable into a euro-denominated receivable with a one-year maturity.  The following were computed without rounding. Select the answer closest to yours.
A)£500,000 
B)£464,874.41 
C)£446,730.77 
D)£509,900.99

Quizplus · Accepted Answer

To redenominate the receivable into euro, we need to sell Swiss francs and buy euros in the spot market. Then we invest the euros received in the money market for one year. The investment should yield an amount equal to the future euro value of the receivable at the end of the year.

Step 1: Sell SFr. 1,000,000 in the spot market at the current exchange rate of SFr 1.30/£, and receive £769,230.77.
Step 2: Invest the £769,230.77 in the money market for one year at the current euro interest rate of 4%, yielding £800,000.00 at the end of the year.
Step 3: Convert the £800,000.00 back into Swiss francs at the current exchange rate of £1 = SFr. 1.25, yielding SFr. 1,000,000.00.

Therefore, a money market hedge would require an investment of £464,874.41.

Your Firm Is a U