International Financial Management 12th Edition by Jeff Madura – Test Bank

Chapter 11—Managing Transaction Exposure

1. Assume zero transaction costs. If the 90-day forward rate of the euro is an accurate estimate of the spot rate 90 days from now, then the real cost of hedging payables will be:
a. positive.
b. negative.
c. positive if the forward rate exhibits a premium, and negative if the forward rate exhibits a discount.
d. zero.

ANS: D PTS: 1 DIF: Moderate OBJ: INFM.MADU.15.11.02
NAT: BUSPROG.INFM.MADU.15.03 STA: DISC.INFM.MADU.15.10
KEY: Bloom’s: Comprehension

2. Assume zero transaction costs. If the 180-day forward rate overestimates the spot rate 180 days from now, then the real cost of hedging payables will be:
a. positive.
b. negative.
c. positive if the forward rate exhibits a premium, and negative if the forward rate exhibits a discount.
d. zero.

ANS: A PTS: 1 DIF: Moderate OBJ: INFM.MADU.15.11.02
NAT: BUSPROG.INFM.MADU.15.03 STA: DISC.INFM.MADU.15.02
KEY: Bloom’s: Comprehension

3. Assume the following information:

U.S. deposit rate for 1 year = 11%
U.S. borrowing rate for 1 year = 12%
Swiss deposit rate for 1 year = 8%
Swiss borrowing rate for 1 year = 10%
Swiss forward rate for 1 year = $.40
Swiss franc spot rate = $.39

Also assume that a U.S. exporter denominates its Swiss exports in Swiss francs and expects to receive SF600,000 in 1 year.

Using the information above, what will be the approximate value of these exports in 1 year in U.S. dollars given that the firm executes a forward hedge?
a. $234,000.
b. $238,584.
c. $240,000.
d. $236,127.

ANS: C
SOLUTION: SF600,000  $.40 = $240,000

PTS: 1 DIF: Challenging OBJ: INFM.MADU.15.11.02
NAT: BUSPROG.INFM.MADU.15.03 STA: DISC.INFM.MADU.15.10
KEY: Bloom’s: Application

4. Assume the following information:

U.S. deposit rate for 1 year = 11%
U.S. borrowing rate for 1 year = 12%
New Zealand deposit rate for 1 year = 8%
New Zealand borrowing rate for 1 year = 10%
New Zealand dollar forward rate for 1 year = $.40
New Zealand dollar spot rate = $.39

Also assume that a U.S. exporter denominates its New Zealand exports in NZ$ and expects to receive NZ$600,000 in 1 year. You are a consultant for this firm.

Using the information above, what will be the approximate value of these exports in 1 year in U.S. dollars given that the firm executes a money market hedge?
a. $238,584.
b. $240,000.
c. $234,000.
d. $236,127.

ANS: D
SOLUTION:
1. Borrow NZ$545,455 (NZ$600,000/1.1) = NZ$545,455.

2. Convert NZ$545,455 to $212,727 (at $.39 per NZ$).

3. Invest $212,727 to accumulate $236,127 ($212,727  1.11) = $236,127.

PTS: 1 DIF: Challenging OBJ: INFM.MADU.15.11.02
NAT: BUSPROG.INFM.MADU.15.03 STA: DISC.INFM.MADU.15.02
KEY: Bloom’s: Application

5. An example of cross-hedging is:
a. find two currencies that are highly positively correlated; match the payables of the one currency to the receivables of the other currency.
b. use the forward market to sell forward whatever currencies you will receive.
c. use the forward market to buy forward whatever currencies you will receive.
d. B and C

ANS: A PTS: 1 DIF: Moderate OBJ: INFM.MADU.15.11.05
NAT: BUSPROG.INFM.MADU.15.03 STA: DISC.INFM.MADU.15.10
KEY: Bloom’s: Knowledge

6. Which of the following reflects a hedge of net receivables in British pounds by a U.S. firm?
a. purchase a currency put option in British pounds.
b. sell pounds forward.
c. borrow U.S. dollars, convert them to pounds, and invest them in a British pound deposit.
d. A and B

ANS: D PTS: 1 DIF: Easy OBJ: INFM.MADU.15.11.02
NAT: BUSPROG.INFM.MADU.15.03 STA: DISC.INFM.MADU.15.02
KEY: Bloom’s: Knowledge

7. Which of the following reflects a hedge of net payables on British pounds by a U.S. firm?
a. purchase a currency put option in British pounds.
b. sell pounds forward.
c. sell a currency call option in British pounds.
d. borrow U.S. dollars, convert them to pounds, and invest them in a British pound deposit.
e. A and B

ANS: D PTS: 1 DIF: Easy OBJ: INFM.MADU.15.11.02
NAT: BUSPROG.INFM.MADU.15.03 STA: DISC.INFM.MADU.15.02
KEY: Bloom’s: Knowledge

8. If Lazer Co. desired to lock in the maximum it would have to pay for its net payables in euros but wanted to be able to capitalize if the euro depreciates substantially against the dollar by the time payment is to be made, the most appropriate hedge would be:
a. a money market hedge.
b. purchasing euro put options.
c. a forward purchase of euros.
d. purchasing euro call options.
e. selling euro call options.

ANS: D PTS: 1 DIF: Moderate OBJ: INFM.MADU.15.11.02
NAT: BUSPROG.INFM.MADU.15.03 STA: DISC.INFM.MADU.15.02
KEY: Bloom’s: Application

9. If Salerno Inc. desired to lock in a minimum rate at which it could sell its net receivables in Japanese yen but wanted to be able to capitalize if the yen appreciates substantially against the dollar by the time payment arrives, the most appropriate hedge would be:
a. a money market hedge.
b. a forward sale of yen.
c. purchasing yen call options.
d. purchasing yen put options.
e. selling yen put options.

ANS: D PTS: 1 DIF: Moderate OBJ: INFM.MADU.15.11.03
NAT: BUSPROG.INFM.MADU.15.03 STA: DISC.INFM.MADU.15.10
KEY: Bloom’s: Application

10. The real cost of hedging payables with a forward contract equals:
a. the nominal cost of hedging minus the nominal cost of not hedging.
b. the nominal cost of not hedging minus the nominal cost of hedging.
c. the nominal cost of hedging divided by the nominal cost of not hedging.
d. the nominal cost of not hedging divided by the nominal cost of hedging.

ANS: A PTS: 1 DIF: Easy OBJ: INFM.MADU.15.11.02
NAT: BUSPROG.INFM.MADU.15.03 STA: DISC.INFM.MADU.15.10
KEY: Bloom’s: Knowledge