Final answer:
The most widely used futures contract for hedging short-term U.S. dollar interest rate risk is the Eurodollar contract. It provides firms a tool for locking in a certain exchange rate to hedge against currency fluctuations in their future receipts or payments.
Step-by-step explanation:
The most widely used futures contract for hedging short-term U.S. dollar interest rate risk is the Eurodollar contract. This type of contract is utilized by firms to protect themselves from movements in exchange rates. For example, when a U.S. firm is exporting to a country like France and expects to receive payments in euros, the future value of these payments in U.S. dollars is uncertain due to possible fluctuations in the dollar/euro exchange rate. By entering into a hedging arrangement, the firm can secure a guaranteed exchange rate, thereby locking in the value of the future euro receipts in dollar terms. Financial institutions or brokerage companies often facilitate this hedging by providing such contracts, either for a fee or by creating a spread in the exchange rate.
Hedging with futures contracts like the Eurodollar allows firms to mitigate the risk of adverse currency movements affecting the value of their investments or receivables. Nevertheless, it is essential to note that hedging does not always lead to financial gain; if the exchange rate moves favorably, the firm would have been better off not hedging, but the primary purpose of the hedge is to provide certainty rather than to speculate on exchange rate movements.