Question

Your firm has a British customer that is willing to place a $1 million order, but wants to pay in pounds instead of dollars. The spot exchange rate is $1.85 = £1.00 and the one-year forward rate is $1.90 = £1.00. The lead time on the order is such that payment is due in one year. What is the fairest exchange rate to use?

Answer 1

The parties should use the one-year exchange rate to disclosure the contract in their books.

Step-by-step explanation:

The spot rate is used when the exchange of pounds for dollars occurs immediately. For the current scenario, this rate is not appropriate.

The parties should use the one-year exchange rate to disclosure the contract in their books.

At the time of payment, they will use the spot rate of that date and made the adjustment needed.

The British firm should purchase 1 million forward to seal the exchange rate, and not incur currency risk.