Question

You have been given the task of evaluating the hedging policy used by a Singa pore company that manufactures mobile telephones under contract for a major company in Europe. The management has a relatively new policy of taking long term forward hedges on the planned sales revenue. They use a three-year rolling plan, and on the basis of the sales figures that were projected, hedge these amounts. This means that they have locked in the euro value of the plant's sales for each of the next three years. When the policy was first put into place, the planned sales for the first year were hedged with a one-year forward contract, the sales for the second year with a two-year forward contract, and the sales for the third year with a three-year forward contract. The idea was to update this at least once each year. When the new sales forecasts were made under the rolling plan, sales planned for three years ahead were hedged with a new three-year for ward contract. At the same time, small adjustments might be made to the existing hedges to reflect changes in sales volume and forecasts. The plant manager in Sin gapore argued, "My margins are quite satisfactory doing this, and I can devote all of my attention to running the plant without worrying about something I can't control." Some data suggest that the Singapore dollar's current worth is about 10 percent overvalued compared with its major trading partners.
Evaluate the currency risk management policy described above. What are its main underlying assumptions? What are its major risks? What are possible operating strategies that the firm could use to manage this exposure?


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  • CreatedMarch 27, 2015
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