Mainz GmbH, a German importing firm anticipates receiving ¥189.3 million in 6 months. Mainz’s management team is worried about the course of the ¥/€ exchange rate over the next 6 months and decides to hedge. The current spot and forward rates are S0=125 ¥/€ and Ft=6 months = 121 ¥/€. The €-interest rate is 0.36%(i) and the ¥-interest rate(i) is 0.28%.

a) Compute the € cash flow to Mainz GmbH if it hedges its position using the forward market.
b) Compute the € cash flow to Mainz GmbH if it hedges its position using the money market.
c) Which of the two above hedges is best for Mainz GmbH.? Alternatively, Mainz GmbH is contemplating the use of an options hedge. Sanwa bank is offering to Mainz GmbH the following options:
i) Call option on ¥189.3 million at K=125 ¥/€, with a 3.8% premium (price as a percent of current spot rate).
ii) Put option on ¥189.3 million at K=125 ¥/€, with a 3.15% premium (price as a percent of current spot rate).
d) Which one is the right option to choose? What is the upfront cost of the option hedge?
e) Compute the break-even rate between the options hedge and the better one of the forward and money market hedges. How does the break-even rate help you decide on which hedge to use?

Answer rating: 100% (QA)

a 1 Hedge using Forward Contract Receivable 18930000000 Forward Rate 12100 Receivable in Forward Con... View the full answer