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Hi
in the suggested solution under counterparty they pay 2.4% is this figure correct?
Should it not be 3.4% ie original rate 3.8% less 60 basis points = 3.2 + .2 bank charge=3.4%
Or have i miss read it
Many thanks
Paul36If you go to the link “P4 Revision and past questions” from the main P4 page, then you will find links to a lecture that work through the whole of this question, and should therefore sort out your problem 🙂
I have a question about options hedging, why is it that under and over hedging is only relevant for options contracts?
Also, is it for only currency options contract that we take over or under hedging into account or also for interest rate options?
Thanks
It is not relevant only for options, it is relevant for futures as well.
It is because both options and futures can only be dealt in fixed sized contracts, and they might not match exactly the amount at which we are at risk.
Exactly the same problem exists for interest rate futures and options (and of course interest rate options are options on futures anyway 🙂 )
I do really suggest that you watch our free lectures on managing foreign exchange risk and on managing interest rate risk.
Thank you very much for your reply
Yes, I do understand that it is relevant to to both options and futures in both currency and interest rate. I guess what I should have asked is (based on what I have noticed when solving past papers and the answers provided) the amount under-hedged or over-hedged is only computed in questions on currency options, right?
Thank you again
No, it is worth mentioning whether you are looking at options or futures (because the same problem exists with both – that the contract size will almost certainly mean that the amount of the transaction is not hedged exactly.
Hi John
I don’t fully understand with the above, do you mean this for CMC futures contract?
Will I get full marks with computation per below?For Future contracts, it slightly under-hedged.
38 x CHF 125000 = CHF 4,750,000
CHF 4,750,000 x 1.0651 = $5,059,225
Under-hedged = $5,059,225 – $5,060,000 = $775
Use forward contracts to hedge this= $775/1.0677 = CHF 726Total Payment = 4,750,728+726 = CHF 4,751,454
Thanks.
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