1) For imports from UK , Philadelphia Ltd of USA owes £650000 to London Ltd, payable on May 2004. It is now February 12, 2004.
The following future contracts ( contract size £62500) are availabale on the Philadelphia exchange :
Expiry Current futures rate
March 1.4900 $/£
June 1.4960 $/£
a) Illustrate how Philadelphia Ltd can use future contracts to reduce the transaction risk if, on 20 May the spot rate is 1.5030 $/£ and June futures are trading at 1.5120 $/£. The spot rate on 12 Feb is 1.4850 $/£.
b) Calculate the hedge efficiency. ( Ans - 85.5 %)
2) MN a UK company has a substantial portfolio of its trade with American and German Companies. it has recently invoiced a US customer the sum of $ 50,00,000 recievable in one year's time. MN finance director is considering two methids of hedging the exchange risk :
Method 1 - Borrowing Present value of $ 50,00,000 now for one year , converting the amount into sterling and repaying the loan out of the eventual receipts ( isint this money market hedge ?????---- this is my question.)
Method 2 - Entering into a 12 mth forward exchange contract with the company's bank to sell the $ 50,00,000.
The spot rate of exchange is £1 = $ 1.6355
The 12 mth forward rate of exchange is £1 = $ 1.6125
Interest rates for 12 mths are USA-3.5% and UK - 4%
Reqd to calculate the net proceeds in sterling in both the methods.
Ans - Method 2 is more suitable. ( implied forward rate in method 1 is 1.6276 )
3) Could u guys provide me good notes on IRP ( Interest Rate parity ) along with some worked out examples ?