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Hedging a possible translation loss using an option contract

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A forward contract was used to establish a derivatives "hedge" to protect Centralia from a translation loss if the euro depreciated from ?1.1000/$1.00 to ?1.1786/$1.00. Assume that an over-the-counter put option on the euro with a strike price of ?1.1393/$1.00 (or $0.8777/?1.00) can be purchased for $0.0088 per euro. Show how the potential translation loss can be "hedged" with an option contract.

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Solution Summary

The expert examines hedging a possible translation loss using an option contract.

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ANSWERS

First, a forward contract is an agreement between two parties in which one party agrees to buy from the other party an underlying asset, in this case the euro, ...

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