ACCA P4 Money market hedging
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I did not understand why I terrestrial rate is 1.45%
5.8%*3/12= 0.0145
Then if I multiply the lecture answer 1.45* 5m ..it is 7.2…and not 5.0725
I didn’t understand why interest rate is 1.45%
I assume that you are referring to example 6.
The interest rate is 1.45% because we are borrowing $’s for 3 months and the 3 months borrowing rate is 5.8%, which for 3 months will be 3/12 x 5.8 = 1.45%.
We do not add 1.45% to 5M, because we are not borrowing 5M. We are calculating how much need to borrow now so as to be owing 5M in 3 months.
If we already have enough pounds to buy dollars in step 2, then why do we need to borrow pounds in step 3.
Or the very reason to borrow pounds is to buy dollars so that we can deposit them.
Your second sentence is correct 馃檪
Thank you John.
You are welcome 馃檪
Could a valid point in an exam be that instead of putting the converted amount on a time deposit at 3,6% interest, you would have it available immediately to strengthen working capital or investing, which could give a higher return?
Yes, certainly.
Perfect, thanks!
You are welcome 馃檪
Dear Sir, Thank you very much for the lecture. The only problem I had was the 3 month interest rates. I forgot it meant pa. I guess I won’t be making that mistake again.
You are welcome 馃檪
Hi there tutor! I have a few queries.
1. Firstly, if it was a direct quote, the only thing that would have changed would be Step 2 right? Wherein, we would have to multiply instead of divide.
2. For step 2, do we always take the lower spot rate in case of payments and higher rate in case of receipts?
3. Like the example questions if it is not explicitly mentioned which interest rate is for borrowing and which one is for deposit, then do we always take the lower interest rate for deposit and higher rate for borrowing?
1. Yes
2. Yes
3. Yes (and it will be the same even if it is explicitly mentioned!).
Hi Tutor, I assume in reality that the rates would be retail/commercial rates and not interbank prime/LIBOR, so in reality one discounts/compounds using the former, am I right? Thank you.
True
Sir,
Can it be just two steps (1&2)? If the Company is happy to cash out its money now of 4,860,204 pounds to exchange to $, then deposit in bank => after 3 months, the Company should have $8m to pay its supplier, right? If it is the case, can we say the 4,860,204 pounds is fixed now?
The reason that we do step 3 is to avoid using the cash now? Meaning, the Company is advantageous by not using its cash now but would agree in higher fixed payment of 4,980,494 pounds in 3 months time?
Thank you in advance for your help!
Sorry, my questions above, I refer to example 7. Thanks.
As I do say in the lecture, in practice the company could pay the pound amount now. However the whole point of money market hedging is not to pay earlier, but to pay on the normal due date but to effectively fix the payment rather than be subject to changes in the exchange rate.