ABC CO. has a 2,400 million payable in 1 year. The relevant market data include:...
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ABC CO. has a 2,400 million payable in 1 year. The relevant market data include: The current spot exchange rate of $0.012/, 1 year forward exchange rate of $0.015/, 1-year call option on yen with the strike price set at 130 cents for 100 yen that is selling for 3 cents per 100 yen. Interest rate in dollars is 10%, while interest rate in yen is 5%.
a. Compute the dollar cost if ABC Co. decides to hedge using a forward contract.
b. If ABC Co. decides to hedge using money market instruments, what action does it need to take? What would be future dollar cost in this case?
c. If ABC, Co. decides to hedge using options, what would be the maximum future dollar cost?
d. At what future spot exchange rate do you think ABC, Co. will be indifferent between the option and the forward hedge? If ABC, Co. believes that the spot rate in 1 year will be $0.01/ and only considers forward and option hedge, which method should it use?
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