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Please explain the answer to the following question: Assume zero transaction costs. If the 90-day forward...

Please explain the answer to the following question:

Assume zero transaction costs. If the 90-day forward rate of the euro underestimates the spot rate 90 days from now, then the real cost of hedging payables will be:

A. Positive

B. Negative

C. Positive if the forward rate exhibits a premium, and negative if the forward rate exhibits a discount

d. Zero

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Homework Answers

Answer #1

The correct answer is Negative

Forward rate refers to an agreement beween the parties to trade in future date at the predetermined price in the future which is known as forward rate. If the forward rate is more than the current spot rate then there will be premium otherwise if forward rate is less than current spot rate then it will be teremed as discount.

Hedge payable refers to the lock in of price of future rate at the current spot rate, So, if in future the spot rate 90 days from now is less than from the current spot rate, Then the cost of hedging paybale will be in negative.

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