Consider a U.S.-based company that exports goods to Switzerland. The U.S. Company expects to receive payment on a shipment of goods in three months. Because the payment will be in Swiss francs, the U.S. Company wants to hedge against a decline in the value of the Swiss franc over the next three months. The U.S. risk-free rate is 2 percent, and the Swiss risk-free rate is 5 percents. Assume that interest rates are expected to remain fixed over the next six months. The current spot rate is $0.5974.
a. Indicate whether the U.S. Company should use a long or short forward contract to hedge currency risk.
b. Calculate the no-arbitrage price at which the U.S. Company could enter into a forward contract that expires in three months.
c. It is now 30 days since the U.S. Company entered into the forward contract. The spot rate is $0.55. Interest rates are the same as before. Calculate the value of the U.S. Company's forward position.