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Determining Value and Expected Profit

Question: Raytheon exported a Patriot missile defense system to Germany. The system costs EUR 500,000,000, and the German government will be making the payment in one year. The current EUR/USD spot rate and money market interest rates are listed below:

Spot: EUR/USD is 1.3176/77
(read as $1.3176-1.3177 per Euro)

RUSD=2%-2.5%
REUR=3%-3.5%

Raytheon wants to sell its receivables forward. Raytheon's principle commercial bank Citi quotes the following 1-year forward rate: $1.2985-1.3113

Show how the Citi bankers calculated the forward rate for the Raytheon transaction. Would Raytheon trade at 1.2985 (bid rate) or 1.3113 (offer rate)?

Assuming that Raytheon decides to sell EUR 500m forward, what would be the dollar receipts if the spot rate one year from now is EUR/USD 1.3400? What would be the dollar receipts if the spot rate is EUR/USD 1.2200?
Discuss pros and cons of hedging Euro risk for Raytheon.

Question 1: Amber McClain, the currency speculator sells 8 June futures contracts for 500,000 pesos at the closing price of $0.10773/Ps?
a. What is the value of her position at maturity if the ending spot rate is $0.12000/Ps?
b. What is the value of her position at maturity if the ending spot rate is $0.09800/Ps?
c. What is the value of her position at maturity if the ending spot rate is $0.11000/Ps?

Question 2: A U.S. importer that incurs costs in GBP and bills its customers in USD is concerned about the depreciation of USD against GBP due to GBP payables of £10,000,000 in a month. To hedge (protect) the position, the importer decides to use futures markets. Currently GBP contracts (62,500 GBP each) are traded at 1.5290. Spot rate is 1.5310 (i.e., GBP/USD 1.5310). Suppose the importer takes an equal futures position to its cash market position (GBP 10m) at 1.5290. Assume that the futures contract price and spot rates are 1.5995 and 1.6020, respectively, when the hedge is liquidated. What should the unit cost of GBP be for the importer in terms of USD?

Question 3: Christoph Hoffeman of Blade Capital now believes the Swiss franc will appreciate versus the U.S. dollar in the coming three-month period. He has $100,000 to invest. The current spot rate is $0.5820/SF, the three-month forward rate is $0.5640/SF, and he expects the spot rates to reach $0.6250/SF in three months.
a. Calculate Christoph's expected profit assuming a pure spot market speculation strategy.
b. Calculate Christoph's expected profit assuming he buys or sells SF three months forward.

Solution Preview

See the attached file. Hope this will help. Thanks

Question
Raytheon exported a Patriot missile defense system to Germany. The system costs EUR 500,000,000, and the German government will be making the payment in one year. The current EUR/USD spot rate and money market interest rates are listed below:
Spot: EUR/USD is 1.3176/77

(read as $1.3176-1.3177 per Euro)

RUSD=2%-2.5%

REUR=3%-3.5%

Raytheon wants to sell its receivables forward. Raytheon's principle commercial bank Citi quotes the following 1-year forward rate:

$1.2985-1.3113

Show how the Citi bankers calculated the forward rate for the Raytheon transaction. Would Raytheon trade at 1.2985 (bid rate) or 1.3113 (offer rate)?
Forward rate (Bid) = Spot Rate (Bid) *(1+RUSD(bid))/(1+REUR(ask))= 1.3176*(1+2%)/(1+3.5%)
=1.3113

Forward rate (ask) = Spot Rate (ask) *(1+RUSD(ask))/(1+REUR(bid))= 1.3177*(1+2.5%)/(1+3%)
=1.2985
Assuming that Raytheon decides to sell EUR 500m forward, what would be the dollar receipts if the spot rate one year from now is EUR/USD 1.3400? What would be the dollar receipts if the spot rate is EUR/USD 1.2200?
For selling Raytheon will receive the bank's bid rate i.e $1.2985, the dollar receipt ...

Solution Summary

The value and expected profits are determined. The German government which will make payment in one year are analyzed. Calculations are provided for the value of the position at maturity if the ending spot rate is given.

$2.19