Question

"Stover Corporation, a U.S. based importer, makes a purchase of crystal glassware from a firm in Switzerland for 39,960 Swiss francs, or $24,000, at the spot rate of 1.665 Swiss francs per dollar. The terms of the purchase are net 90 days, and the U.S. firm wants to cover this trade payable with a forward market hedge to eliminate its exchange rate risk. Suppose the firm completes a forward hedge at the 90-day forward rate of 1.682 Swiss francs. If the spot rate in 90 days is actually 1.615 Swiss francs, how much in U.S. dollars will the U.S. firm have saved or lost by hedging its exchange rate exposure?

Answer 1

Answer:

The U.S. firm will lose $985.6 by hedging its exchange rate exposure.

Explanation:

- We have the two scenarios Stover Corporation may choose to exercise as below:

* Without hedging:

In 90 days, Stover receives 39,960 Swiss francs, exchange this amount at the spot rate in 90 days which is 1.615 to get: 39,960/1.615 = $24,743.03.

* With hedging:

In 90 days, Stover receives 39,960 Swiss francs, exchange this amount at the 90-day-forward rate entered at the beginning, which is 1.682 to get: 39,960/1.682 = $23,757.43.

- As a result, entering into exchange rate hedging makes Stover incur loss of $24,743.03 - $23.757.43 = $985.6.