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Dear John,
I need your comments on below, whether my understanding is correct or no.
Refer to the hedging of FX currency. For example amount to be received/paid is $4.37m and contract size is $0.2m. Once we calculate the number of contracts to be purchased, we simply divide amount to be received/paid on contract size, so 4.37/0.2=21.85 or rounded 22 contracts. So do not calculate unhedged amount and work with rounded figures.
However, for hedging interest rate, we also need to consider the period once we calculate number of contracts, i.e. if use above figures and assume that borrowing for 6 months, then No of contracts will be 4.37/0.2*6/3=43.7 and we hedge 43 contracts and then unhedged amount to be converted at 6 month forward rate unless other rate is given.
Overall, in case of hedging FX currency we ignore decimals of contract, just round it and no unhedged amount and no period to be considered. Correct?
Best regards
In both cases when using either futures or options they we do have to round the number of contracts.
However it is only with currency futures that we consider using forward rates on any over or under hedged amount.
Have you watched my free lectures on foreign currency risk management and on interest rate risk management?
Thank you John,
Yes, I watched all your lectures, they are very helpful. Just in some questions it is rounded, in others it is not …. therefore just would like to clarify … also there are few days left till my exam … so stressful ….For futures and options where there is a contract size, then it will always be rounded – you can only deal in whole numbers of contracts.
Dear Tutor
Hope you are doing well.
I have just watched your lecture on FOREX Risk Management Part (II).
In Example 3 part(b) of the lecture while calculating the final payment you added premium calculated in part(a) of the question? Why so? As in part (a) spot rate was different and in part (b) spot rate is different. How we can sum up premium payment or receipt calculated using two different spot rates?
Can you please elaborate?
Thanks and Kind Regards
M AdilThe premium is payable immediately the option is purchased and so is converted at the spot rate on that date. This payment is made whether or not the option is eventually exercised.
It is only when the transaction occurs that it is decided whether or not to exercise the option, and the transaction is converted at whatever the spot rate is on that date.
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