The following is a comprehensive hedging problem. Suppose today is January 2 and BSK, Inc. is a US firm that has the following Canadian dollar (CAD) and Australian dollars (AUD) cash flows due in 6 months (July 2):

Receivables Payables

Canadian dollar CAD2,000,000 CAD1,735,000

AUD AUD 2,765,000 AUD 3,700,000

Suppose also you have the following information regarding foreign exchange rates, interest rates, and futures and options prices, all reported as of January 2:

Bid Ask

Spot: CAD 1.2605/$ CAD 1.2610/$

AUD 1.3610/$ AUD 1.3615/$

6-mo forward CAD 1.2673/$ CAD 1.2682/$

AUD 1.3500/$ AUD 1.3515/$

Annualized interest rates on 6-month deposits and 6-month loans:

Deposit Lending

US 2.35 2.45

Canada 2.80 2.90

Australia 1.50 1.58

Assume Futures Prices on Jan 2 $/CAD $/AUD

Sept. futures (futures matures on September15) $0.7880/CAD $0.7420/AUD

(1 CAD contract = CAD 100,000; 1AUD contract = AUD100,000, both maturing in September, and one cannot go long or short fractions of a contract)

Options market prices on Jan. 2, (Note: Quotes below are in US cents/1FX on Sept. Contracts):

Call Prem Put Prem

Sept option on CAD w/ 80 strike 1.17 1.45

Sept option on AUD w/74 strike 1.14 1.90

(Suppose 1 CAD options contract = CAD50,000; 1AUD options contract = 50,000 AUD, and assume one cannot buy fractions of the options contracts)

Question: 1. Suppose the firm is considering using currency collars (also called a range forward contract) to hedge its CAD & AUD positions. How would a currency collar be implemented for the CAD position in this problem? For the AUD position in this problem? (note: simply state how you would construct, no calculations involved here)

2. Suppose the net payables or receivables in the CAD & AUD are expected to be maintained for years into the future. What does this imply for BSKs operating (also called economic exposure) to foreign exchange risk? What actions could BSK take to reduce its operating exposure to exchange risk over the longer term?