Question

Conroe Ltd expects to receive EUR 1 million in 6 months’ time. The following product rates are available:

• Spot is currently 0.5400 EUR /NZD
• 6-month forward rates are available at 0.5250/0.5370 EUR/NZD
• 6-month borrowing/investing rate for the company is 6% p.a. in NZD and 12% p.a. in EUR
• Assume the spot rate turns out to be 0.5200 EUR/NZD in 6-months

What is the difference check exchanged at maturity if a forward hedge is used? What way do the funds flow?

Select one:

a. NZD 17,000, NZ Ltd to pay

b. NZD 60,879, NZ Ltd to receive

c. NZD 17,000, NZ Ltd to receive

d. NZD 60,879, NZ Ltd to pay

Answer 1

Solution:

we have NZD rates as follows

spot rate = Euro/NZD = Euro 0.5400

6 month forward rate Euro/NZD = Euro 0.5250 / 0.5370

spot rate after 6 month Euro/NZD = Euro 0.5200

we have to recieve Euro 10,00,000 in 6 months , so we will sell Euro & Purchase NZD in forward market..

Purchase rate for NZD is 1NZD=Euro 0.5370

Inflow of NZD after 6 month =Euro 10,00,000 / 0.5370

= NZD 18,62,197

If we dont hedge our exposures then we have to sell Euro 10,00,000 at spot rate after 6 month at Euro 0.5200

Inflow of NZD = Euro 10,00,000 / 0.5200

= NZD 19,23,077

The difference is Payable to cover the forward posion in market i.e ( 1923077 - 1862197) = NZD 60,879.5 payable.