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For future currency hedging alternative one
the answer given is
Futures
Sell Swiss futures and use June futures contracts.
No. of contracts = CHF12,300,000/125,000 = 98·4, say 98, hedging CHF12,250,000
Remainder to be hedged on the forward market is CHF12,300,000 – CHF12,250,000 = CHF 50,000
Receipt = CHF50,000 x 1·0358= $51,790
Calculation of futures price
Assume that basis reduces to zero at contract maturity in a linear fashion.
Estimate from March and June futures contract rates.
Predicted futures rate at the end of May = 1·0345 + ([1·0369 – 1·0345] x 2/3) = 1·0361
Expected receipt = CHF12,250,000 x 1·0361 = $12,692,225.my question is for predicting the future rate for end of may why have we taken the “March and June future prices” and apportioned by 2/3??
normally dont we take (Future price -spot price) * unexpired basis??
my answer is 1·0292 + (1/7 x (1·0369 – 1·0292)=1.0303.. ie the unexpired basis is may – june one month /total no of months= 1/7
also in the alternative two solution its given as
1·0292 + (6/7 x (1·0369 – 1·0292)) why have they taken 6/7 as apportionment.
in all my kaplan revision kit questions the solution is given as unexpired basis only.
Given that ‘now’ is the 31st November, March futures finish in 4 months time and June futures finish in 7 months time (so 3 months between them).
The transaction takes place on 31 May, which is in 6 months time (and is 2 months after the end of the March future).
So the examiner has apportion between the two by taking the value of the March future and adding on 2/3 of the difference between the values of the June and March futures.Strictly, the better way of calculating the ‘lock-in rate’ is either to take the current spot rate and (here) add the expired basis (which is 6/7 of the difference between current spot and the June futures price) as you have typed above (which gives 1.0358); or alternatively, take the current futures price and subtract the unexpired basis (so 1.0369 – (1/7 x (1.0369 – 1.0292)) = 1.0358.
When deciding whether to add or subtract the expired or unexpired basis (depending which way you do it), the ‘lock-in rate’ must always be somewhere between the current spot rate and the current futures price.
I do explain this, and the reasoning behind it, in my free lectures on foreign exchange risk management.
Wow..super!! thank you sir.. i realised i took the wrong future price.. thank you 🙂
fort this question why have they not calculated profit/loss on futures market ..we usually take into consideration the prfit or loss on net outcome right??
the answer given is
Outcome
$
Futures 12,688,550(CHF12,250,000 x 1·0358 = $12,688,550)
Remainder on forward market 51,790(50000* 1·0358)
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12,740,340
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