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Assignment Learning Objectives
Students are assigned to a case study related to practical issues faced by financial managers of multinational companies. Students are required to analyze the issues described in the case study and submit a written report as a group. At the end of the term, each group will have a professional presentation of their work to classmates.
For the particular case of “F.Mayer Imports: Hedging Foreign Currency Risk”, the case places students in the chief financial officer’s situation in order to:
- Appreciate volatility in foreign currencies and how it may impact a company’s profit margin and competitive advantage in the marketplace;
- Understand and evaluate various foreign currency risk-hedging strategies by using payoff diagrams; and,
- Understand that there are costs to every hedging strategy – risks versus rewards. Even when a hedging strategy is named “zero cost,” there is a hidden cost in the structure.
Written report:
Each group should submit a written report. Maximum 12 pages (cover page, reference, figures, and appendix excluded). The written report must be submitted by one of the group members to Moodle only. Please pay attention to the format and typos. Penalization will be applied.
Group presentation:
Each group will deliver a presentation on their Section 2. Forecasting in their section in Week 10. Each group will decide their member(s) to present in person. Each presentation lasts for 15-20min including Q&A.
In the report as well as in the presentation, please make it complete: begin with a background introduction and give a concluding remark at the end.
FINS5516 - Case questions
Students are required to read the case “F.Mayer Imports: Hedging Foreign Currency Risk” and answer the following four questions:
Section 1. Case Study (10%)
Question 1: Hedging
• A) For somehow, you know that the AUD/EUR would go up to and stay at 0.800 for a year. Should you hedge at 0.6900? If yes, how much would you pay for the hedge? (Assume that you cannot adjust the product price in Australia).
• B) For somehow, you know that the AUD/EUR would go down to and stay at 0.600 for a year. Should you hedge at 0.6900? If yes, how much would you pay for this hedge? (Assume that you cannot adjust the product price in Australia)
Question 2: Macroeconomics
• A) If the ECB started more monetary stimulus, what would happen to AUD/EUR? Would the value of hedging increase or decrease? Explain.
• B) Suppose that one-year interest rates in Europe and Australia are 3.6% and 6%, respectively. Given the spot rate of 0.6980 and the four-month forward rate of 0.6910, do you find any arbitrage strategy?
Question 3: Hedging strategies
We have learned various hedging instruments, namely, forward and options. You are asked to draw the payoff diagram (profit on the y-axis and currency rate on the x-axis) to illustrate the payoff of each strategy: (note that the budget rate is 0.6900 which gives us zero profit)
• A) No hedge;
• B) Using the four-month FEC in Exhibit 3;
• C) Purchasing an AUD put/EUR call option
Can you come up with alternative more complicated strategies? (optional) Question 4: Hedging Payoffs
• A) Calculate the gain/loss of
• (1) using the four-month FEC in Exhibit 3 and
• (2) purchasing an AUD put/EUR call option: (ignore the transaction costs and margins)
• When the rate reaches 0.800;
• When the rate reaches 0.600;
• B) What is the break-even spot price on the option contract? On the futures contract?
Section 2. Forecasting (20%)
In the following two questions, please note that you should
• Be creative: you can analyze the exchange rate using a forecasting model, think of viable negotiation with your supplier (risk sharing, price adjustment, etc.) or bank (exposure netting, money market transaction), or even boldly stay unhedged (expecting a favorable exchange rate). Any method in/out of the course materials is welcomed.
• Be specific: it is important that you should be specific. Listing up all possible hedging strategies cheaply would not be graded highly. One specific and professional strategy would be graded higher (even if the strategy is simple). You can find the current future/option price online, even some comparable deals/contracts among MNCs.
• Be professional: there is NO dress code in the presentation. However, the written report and presentation should deliver your ideas in a professional manner. Be clear and direct.
Question 1: EUR Forecasting in 2024
Assume that the case repeats itself as of now (as of July 2024). We just made our payment at AUD0.620/EUR unhedged. With the adjusted budget at 0.620, what can we do about the next cash flow in July 2025?
Question 2: An alternative option (USD/CNY/GBP/JPY/KRW/INR/MXN/ …)
Assume that you have an alternative option of importing EUR70 million worth of products from your assigned nation. Assume that the profits from the two options are the same, your gains/losses would be purely driven by the relative appreciation/depreciation of the two currencies (or the cost differentials in hedging). Shall we change our supplier and switch to your assigned nation’s product?