Question

Golden has a receivable due in 30 days for 30,000 euros. The treasurer is concerned that the value of the euro relative to the dollar will drop before the payment is received. What should Golden do to reduce this risk? a. Buy 30,000 euros now b. Enter into an interest rate swap contract for 30 days c. Enter into a forward contract to sell 30,000 euros in 30 days d. Golden cannot effectively reduce this risk

Answer 1

Answer:

The answer is c. Enter into a forward contract to sell 30,000 euros in 30 days

Explanation:

The risk Golden is facing is the exchange rate risk. Specially, as of the firm's concern, 30,00 euros they will receive in 30 days will not be worth as much as it is now because the Euro is expected to be depreciated against the firm's domestic currency.

So, they may enter into a forward contract allowing them to sell 30,000 euros in 30 days ( take short position in Euro) at pre-determined exchange rate. By doing so, they effectively eliminate the exchange rate risk by lock-in the exchange rate at the day they receive 30,000 euro.