1.You are a buyer for a major department store chain, and have just entered into a contract with a German supplier to purchase various types of cooking utensils and silverware. The contract you signed calls for you to pay DM 10 million on the 1st of October by wire transfer between banks. To reduce the risk of foreign exchange losses, you decide to hedge using the September futures contract, which settled yesterday at $0.5527. There are DM 125,000 in one futures contract.
a.How many futures contracts would you buy or sell to do this?
b.Suppose that two weeks after you place your hedge the price of the futures contract has risen to $0.5812. What would be the advantages and disadvantages of closing out the futures contract positions at that time?
c.Based on your answer to part a, and assuming that the good faith deposit required for each contract is $1500, how much money would the clearinghouse show in your good faith deposit account when the futures price was $0.5812?
2.Suppose you are a U.S. manufacturing firm that routinely buys raw materials from foreign countries. List reasons in favor of and against a policy of continual hedging of foreign exchange risk using foreign exchange futures.
3.Suppose you manage a U.S. manufacturing firm that routinely buys and sells goods to or from firms in foreign countries. List reasons in favor of and against a policy of continual hedging of foreign exchange risk using foreign exchange futures.
4.Suppose a local in the DM futures pit hears a news item indicating Japanese inflation is likely to be greater than previously anticipated. Is this news more likely to increase or to decrease the price of Yen futures contracts?
5.Is it logical to expect that hedging via foreign exchange futures will "increase your rate of return" over the long term?