An FI is planning to hedge its one-year, 100 million Swiss francs (SFr)–denominated loan against exchange rate risk. The current spot rate is $1.10/SFr. A one-year SFr futures contract is currently trading at $1.08/SFr. SFr futures are sold in standardized units of SFr125,000.
a) The FI should be worried about SFr appreciating, as the loan is denominted in SFr and as the value of SFr appreciates, FI will have to make more outflow of $.
b) FI should buy futures to hedge the risk of change in exchange rate as it will be paying off SFr denominted loan.
c) No. of contracts to be bought:
(SFr 100 million/ SFr 125000) × 1.4 = 1120 contracts
d) Hedging of loss under forward cover:
$ value of loan at the time of repayment $ 105 ml
( $1.05× SFr 100 million)
Repayment under Forward cover - $ 104.43 ml
( $ 1.0443× SFr 100 million)
Hedged amount $ 0.57 ml
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