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A payment of US$ 5,060,000 is due in 4 Months. I thought this was similar to Example 11 of the OpenTuition tutorials on Currency Futures except that in this case the Spot rate on the date of the transaction is not given. Therefore estimating the Futures amount to calculate any profit or loss is impossible.
If I wish to follow the method taught during the tutorials, how do I determine the spot rate and the Futures rate in 4 months time to calculate the payment and any profit or loss as well as the rate to use when converting the profit or loss into CHF?Thank you
Roman
There are two approaches that you could take, which would get you the marks.
Remember in real life, when you started the futures deal you have no idea what the spot rate will be on the date of the transaction.
So one way is to simply invent a spot rate (in which case do state – “I have assumed a spot rate of XX on the date of the transaction” and then continue as per the lecture.
(The final result may be a little different from the answer because we cannot hedge the exact amount due to the contract size, but the marks are for proving that you understand how futures work).The alternative is to calculate a ‘lock-in rate’ (which is what the examiner shows in brackets under his answer). Here what we are doing is saying that we can actually predict the net effect of converting at spot and taking the profit/loss on futures. We can do this because we can calculate the change in the basis (it falls to zero over the life of the future) and it is only because of this that we don’t get a perfect hedge (i.e. the profit/loss on the future not being exactly equal to the gain/loss on the transaction).
Either approach is fine 🙂
Hello,
Just a quick question. A forward rate agreement (FRA) is the same as a forward market hedge right? (two different names for the same thing)?
Thanks
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