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- March 1, 2023 at 4:04 am #679832banjowParticipant
- Topics: 1
- Replies: 0
It is now 31st December 2016. Durran Inc. is a US-based speciality chemicals
company, with its head-office located in the North Shore area of Staten Island NY,
and with production units in Mexico, India and Malaysia, as well as in up-state New
JohorChem Berhad is the company’s Malaysia agrichemical operation and this
division exports most of its output to a range of countries in South-East Asia and the
Because of the highly competitive market for agrichemicals, these export trades are
normally denominated in the customers own currency but in the past, JohorChem has
not bothered to hedge its foreign exchange risk exposures and instead has relied on
the belief that having a well-diversified portfolio of currency exposures will itself
operate as an effective hedge.
However, the division has suffered significant foreign exchange losses in recent
months and the company’s newly appointed CFO is looking to change this policy and
to hedge the division’s export trades against the US dollar, (US$), the parent
company’s home currency.
JohorChem has most recently signed a contract for the sale of a quantity of bovine
somatotropin to the Australian Government, to help expand the Australian dairy
industry, for a negotiated price of US$2,130,000. Given the current spot rate between the US and Australian dollars, JohorChem has
agreed to invoice the Australian government for 2,800,000 Australian dollars, (A$),
payable on 30th June 2017.
JohorChem’s bank – AmBank – has informed them that the current spot exchange
rate between the US and Australian dollars is US$0.7610 = A$1 and that the 6-month
forward rate is US$0.7536.
Australian dollar 6-month money market interest rates are currently 4% per year on
loans and 3.5% per year on deposits. The equivalent annual US$ rates are 2.5 % and
AmBank has indicated that they would be willing to enter into either a 6-month
European call or put option on A$2.8 million, at an exercise price of A$1.3158/US$,
for a premium of US$29,000 on the call and US$54,000 on the put.
US$/A$ traded currency options are available on the North American NASDAQ
market with the following premiums:
Strike price Calls Puts
US$=A$1 March June March June
0.750 1.42 1.55 1.13 1.35
0.755 1.31 1.47 1.26 1.49
0.760 1.19 1.39 1.42 1.58
0.765 1.02 1.14 1.59 1.75
0.770 0.94 1.02 1.67 1.92
Contract size: A$10,000.
Premium quotes: 1 tick equals US$100 (i.e. 1.12 = US$112)
a) You are currently working as an executive assistant to the new CFO of JohorChem
and she has asked you to prepare a report comparing the expected outcomes from
hedging the cash proceeds of this contract using:
i) a forward market hedge.
ii) a money market hedge.
Compare the outcome of these two hedges. Recommend, with reasons, which hedging
method would be preferable.
b) Add an appendix to your report that briefly discusses the advantages and
disadvantages of using currency options to hedge the company’s foreign exchange
risk exposure on the Australian contract, rather than forward or money market hedges.
c) Demonstrate how you would undertake a traded option hedge in respect of
JohorChem’s A$2.8 million currency exposure.
d) Contrast the outcome of the OTC option hedge with the forward market hedge if,
on 30th June 2017, the actual spot rate was US$0.7480 = A$1.
e) You are now told that the company’s contract with the Australian government is
contingent on satisfactory Australian government tests on the purity of the bovine
somatotropin that would be supplied by JohorChem. These test results will not be
available until the end of February 2017.
Explain how a deal-contingent currency forward hedge might work for JohorChem
and contrast its use to hedging via an OTC option.
f) In order to help the company’s cash flow, JohorChem finally decide to use a money
market hedge in respect to the Australian contract. However, the Australian
government now announce that they would consider foregoing the 6-month credit
period and would pay immediately, in exchange for a discount on the agreed price of
What is the maximum discount that JohorChem should offer?
Need solution to this.
Thank YouMarch 2, 2023 at 8:24 am #679943John MoffatKeymaster
- Topics: 56
- Replies: 51875
We do not provide solutions to questions – that is not the purpose of this website or of our Ask the Tutor Forums.
You must have an answer to the question in the same book in which you found the question, so ask about whatever it is in the answer that you are not clear about and I will explain.
Also, everything needed to be able to answer foreign exchange questions in Paper AFM is covered in our free lectures. Have you watched the lectures?
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