CIRCLE YOUR CHOICE OF THE CORRECT ANSWERS OR FILL IN THE BLANK
WITH YOUR RESPONSE.
From the perspective of the writer of a put option written on €62,500. If the strike
price is $1.25/€, and the option premium is $1,875, at what exchange rate do you start to
Rationale: Per euro, the option premium is
. Since it’s a put
option, the writer loses money when the price goes down, thus he breaks even at
$1.25/€ – $0.03/€ = $1.22/€
XYZ Corporation, located in the United States, has an accounts payable obligation of
¥750 million payable in one year to a bank in Tokyo.
The current spot rate is ¥116/$1.00
and the one year forward rate is ¥109/$1.00.
The annual interest rate is 3 percent in
Japan and 6 percent in the United States.
XYZ can also buy a one-year call option on yen
at the strike price of $0.0086 per yen for a premium of 0.012 cent per yen. Assume that
the forward rate is the best predictor of the future spot rate. The future dollar cost of
meeting this obligation using the option hedge is:
Option premium = ($0.00012/¥1.00) × ¥750,000,000 = $90,000
The future value of the option premium is:
= $90,000 × (1.06)
At the expected future spot rate of $0.0092 (= 1/109), which is higher than the
exercise price of $0.0086, XYZ will exercise its call option and buy
¥750,000,000 for $6,450,000 (= ¥750,000,000 × $0.0086).
The total expected cost will be:
= $6,450,000 + $95,400
Suppose a US-based firm has a receivable position for CD 10 million. In order to hedge its
exchange rate exposure, would the firm use a call or a put on the CD?
Would the firm buy
or sell the option?
The firm has a CD receivable and is concerned about a decline in the US$ value of the CD. The
firm needs the right to sell the CD, which implies they need to
on the CD.