Sam is a portfolio manager of Silver global technology fund in Sydney. He is concerned about currency fluctuations related to the equity portfolio. The portfolio is valued in AUD, but has foreign currency exposure, primarily the USD.

Based on his analysis, Sam generates the following forecast:

• Expected return (in USD) of the Portfolio 12.4%
• Standard deviation (in USD) of the portfolio 18%
• Expected FX spot rate in one year 1USD = 1.2047AUD
• Standard deviation of the FX 5%
• Correlation between FX and the portfolio (in USD) - 0.06

A FX dealer provides the following market quote

• USD / AUD spot rate 1.1870
• 1 year USD / AUD forward rate 1.2058 - 1.2079

Sam considers to sell USD and buy AUD using a one-year forward contract to fully hedge USD currency risk. He would like to execute the trade only if he can increase the portfolio return by at least 30 basis points.

Based on Sam's forecast, should he execute the forward contract? 

Answer rating: 100% (QA)

To decide if Sam ought to execute the exchange to support the USD cash risk we want to work out the ... View the full answer