Question

You have an account payable denominated in Rial due in 6 months and are concerned about...

You have an account payable denominated in Rial due in 6 months and are concerned about foreign exchange fluctuations. Are you concerned about the Rial appreciating or deprecating against the dollar? Explain how you can use options to hedge this position.

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Answer #1

You have to pay in Rials in 6 months. Hence you have to buy Rials in exchange of US dollars. Therefore you have to pay more US dollars to buy Rials if Rial appreciates. Hence you should be concerned about Rial appreciating against the US dollar.

Now since you are concerned about Rial appreciating against the US dollar you can enter a future options contract to buy Rials in exchange of US dollars ata specified rate after 6 months. That is to say you can enter a 6 months contract to buy Rials in exchange of dollars.

Also as regards to options, one can also enter a call option to buy Rials in 6 months. However the drawback is that one has to pay upfront call premium.

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