Problem 1 (Hedging)
A US exporter expects to receive £1 million in 2 monthsfor her exports to the UK. The current exchange rate is US$2.30/£.She is worried that the pound might depreciate over the next 2months and wants protection against its decline but she also wantto benefit from a possible rise in £ over the next 2 months. Putoptions and call options on the £, with 2-month maturity areavailable.
What should she do?
Suppose the 2-month put options exercisable at US$2.50/£are trading at US$0.01. What would be her cash revenue, given youranswer in part a), if at the 2 month end the spot exchange rateturns out to be
US$2.00/£
US$3.00/£
What would be her minimum cash revenue, no matter whatthe spot rate at the end of 2 months turn out to be?
What would be the upfront cost (fee) for undertaking theappropriate options contract?
What would she do if the expected £1 million at the2-month end are not received and what would be her loss if thathappens?
