Covent Garden Productions has booked Tony Blair, former Prime Minister of the United Kingdom, to give...

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Covent Garden Productions has booked Tony Blair, former Prime Minister of the United Kingdom, to give a dinner speech in New York for a large hedge fund and their clients. Mr. Blair will be paid $100,000 for his talk which is scheduled one year from now. Mr. Blair will be paid on the day of the speech. Mr. Blair's financial advisors want to hedge this USD receivable to eliminate the risk of changes in the USD/GBP exchange rate. These are the exchange rates and interest rates available to Mr. Blair. Bid USD/GBP spot 1.30 2.4% i (USD) i*(GBP) USD/GBP 0.9% 1.32 forward (1 yr.) Ask 1.31 3.0% 1.3% 1.33 a. Would you advise Mr. Blair to use a forward rate hedge or a money market hedge? Forward rate hedge: Cash inflow in one year = $100,000 Convert to pounds at forward rate=100,000 USD/1.33=75,187.97 GBP Present value = 75,187.97/1.013-74,223.07 GBP Money market hedge: Covent Garden Productions has booked Tony Blair, former Prime Minister of the United Kingdom, to give a dinner speech in New York for a large hedge fund and their clients. Mr. Blair will be paid $100,000 for his talk which is scheduled one year from now. Mr. Blair will be paid on the day of the speech. Mr. Blair's financial advisors want to hedge this USD receivable to eliminate the risk of changes in the USD/GBP exchange rate. These are the exchange rates and interest rates available to Mr. Blair. Bid USD/GBP spot 1.30 2.4% i (USD) i*(GBP) USD/GBP 0.9% 1.32 forward (1 yr.) Ask 1.31 3.0% 1.3% 1.33 a. Would you advise Mr. Blair to use a forward rate hedge or a money market hedge? Forward rate hedge: Cash inflow in one year = $100,000 Convert to pounds at forward rate=100,000 USD/1.33=75,187.97 GBP Present value = 75,187.97/1.013-74,223.07 GBP Money market hedge:

Answer rating: 100% (QA)

To use a money market hedge Mr Blair would need to borrow pounds today and inves... View the full answer