Question

Adrian Corp has future receivables of 1,000,000 Singapore dollars ($$) in one year. It must decide whether to use options to hedge this position. Use any of the following information to make the decision. What is the expected proceeding the company will receive in one year?

Spot rate of $$=$.54

One year call option:Exercise price=$.50, premium=$.07

one year put option: Exercise price=$.52, premium=$.03

Forecast spot rate of next year:

Rate Probability

$.50 20%

.51 50%

.53 30%

Answer #1

Spot Rate : 1S$ = $0.54

Expected Rate after 1 year = 0.50 * 20% + 0.51* 50% + 0.53* 30% = 0.514

Expected Rate 1S$ = $0.514

If no action is taken Adrian Co is expected to receive = S$ 1,000,000 * 0.514 = 514,000

Since it is expected to receive S$ and S$ is expected to fall, so Put Option is to be taken

If Put option is taken the amount received will be

= 1000,000 * 0.52 - Premium Paid

= 1000,000 * 0.52 - 1,000,000 * 0.03

= 520,000 - 30,000

= 490,000

**It is better not to hedge and sell S$ at expected rate
of 0.514 and receive $ 514,000**

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