Watson Hardware Corporation regularly ships tools to the United States to retail outlets from its warehouse in Stuttgart, Germany. Its normal credit terms call for full payment in U.S. dollars for the hardware it ships within 90 days of the shipment date. However, Watson must convert all U.S. dollars received from its customers into Euros in order to compensate its local workers and suppliers. Watson has just made a large shipment to retail dealers in the United States and is concerned about a forecast just received from its local bank that the U.S. dollar-euro exchange rate will fall sharply over the next month. The current Euro-U.S dollar exchange rate is 0.64 Euros per dollar. However, the local bank’s current forecast calls for the exchange rate to rise to 0.70 Euros per dollar, so that Watson will receive substantially less in euros for each U.S. dollar it receives in payment. Please explain how Watson, with the aid of its bank, could use currency futures to offset at least a portion of its projected loss due to the expected change in the Euro-dollar exchange rate.
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