Question

Use the following information to calculate the dollar cost of using a money market hedge to hedge 200,000 British pounds of payables due in 180 days. Assume the firm has no excess cash. Assume the spot rate of the pound is $2.02, and the 180-day forward rate is $2.00. The British interest rate is 5 percent, and the U.S. interest rate is 4 percent over the 180-day period.

a. $351,210.
b. $381,210.
c. $371,210.
d. $400,152.

Answer 1

Dollar cost of Money market hedge= $400,152.38

Step-by-step explanation:

The money market hedge would be set up as follows:

Step 1: Deposit in Pounds

Deposit an amount in Pounds equals to

Amount to be deposited= Payable/(1+deposit rate)

= 200,000 pound/(1.05)= 190,476.19 pounds

Step 2 : Convert the sum

Convert 190,476.19 pounds at the spot rate of $2.02

Dollar amount = 190,476.19 × 2.02

= $ 384,761.90

Step 3: Borrow at home (US)

Borrow $ 384,761.90 for 180 days at an interest rate of 4%

Amount due (inclusive of interest) = Amount borrowed × 1.04

=$ 384,761.90 × 1.04

= $ 400,152.38

Dollar cost of Money market hedge= $400,152.38