On January 10, Volkswagen agrees to import auto parts worth $7 million from the US. The parts will be delivered on March 4 and are payable immediately in dollars. VW decides to hedge its dollar position by entering into IMM futures contracts. The spot rate is $1.3447/ euros and the March futures prices is $1.3502. Calculate the number of futures contracts that VW must buy or sell to offset its dollar exchange risk on the parts contract if each contract is worth euros 125,000.
A. buy 46 contracts
B. sell 42 contracts
C. sell 40 contracts
D. buy 26 contracts
Calculate the number of future contracts as follows:
First convert the dollars into euros
$ 7,000,000 to euros at forward rate = [ Dollar worth / 1 ] / [ future price / 1€ ]
= [ $ 7,000,000 / 1 ] / [ 1.3502 / 1€ ]
= € 5,184,417.12
Now, calculate the number of futures as follows
Number of futures contracts = Future contracts imports price in Euro / The size of one unit future contracts
= € 5,184,417.12 / 125,000
Therefore,the number of future contracts needed to offset is to sell 42 contracts ( rounded off ).
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