Boeing imported a Rolls-Royce jet engine for 10 million payable in three months. The current spot rate is $1.36/ and three-month forward rate is $1.3/. A three-month put option on pounds with a strike price of $1.32/ has a premium of $0.015 per pound, while a three-month call option on pounds with the same strike price has a premium of $0.018 per pound . Currently, three-month interest rate is 3.2% per annum in the U.S. and 4.4% per annum in the U.K.

Boeing is considering alternative ways of hedging this foreign currency payable. It tries to minimize the dollar cost of paying off the payable. All questions below refer to cash flows in three months. 2 points / question.

a. What would be the expected future U.S. dollar cost of buying 10 million for Boeing if they decide NOT to hedge, assuming that Boeing regards the forward rate as an unbiased predictor of the future spot rate? How risky (certain/uncertain) is this cash flow?

b. What would be the future dollar cost if Boeing decides to hedge using a forward contract? Indicate whether Boeing should use a long or short forward contract. How risky (certain/uncertain) is this cash flow?

c. If Boeing decides to hedge using money market instruments, what would be the U.S. dollar cost of the payable in this case? How risky (certain/uncertain) is this cash flow?

d. If Boeing decides to hedge using options, what option (call or put) should they buy? At what future spot rate will they exercise the option? What would be the maximum U.S. dollar cost for Boeing?

e. Based on the available information and your calculations above, what is your recommendation to Boeing for a best strategy (unhedged vs forward hedge vs money market hedge vs options hedge)? Please rank them in order of your preference.

f. Other things being equal, at what forward rate would Boeing be indifferent between the forward and money market hedge?