5645645 Essay

756 Words Dec 11th, 2014 4 Pages
Group Name: | Jasen Turnbull | Section: | Sect 300 (2:30-3:45pm, Mon. & Wed.) | Date: | October 26th, 2010 |

1) There are several factors that give rise to currency exposure at AIFS. One of these is the fact that most of their revenues are denominated in USD ($) but most of the expenses they incur are in foreign currencies (mainly Euros and British Pounds). One of the reasons AIFS hedges currency is to protect themselves from changing foreign exchange rates. This also protects them from one of their 3 major types of risk – the bottom line risk, or the risk that foreign exchange rates could increase the firm’s cost base. The second type of risk AIFS encountered was sales volume risk. Since currency is traded based on
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Their revenues are less exposed due to the fact that most of the revenues are denominated in USD($). The same cannot be said about expenses, which are mostly denominated in foreign currencies and make AIFS’s bottom line fluctuate more.

3) If AIFS were to hedge against currency risk using 100% forward contracts, their position would be fully covered if they can accurately predict the amount and timing of the payments. If AIFS were to hedge using 100% options, they would be fully covered against currency risk, but would pay an option premium of $1,525,000. For the ‘zero impact’ scenario, if the USD($) is strong compared to the Euro, this would have a positive impact on AIFS, because it reduces their costs incurred by $5.25 million. Ceteris paribus, except the dollar is weak compared to the Euro, this creates a negative impact for AIFS by increasing their costs by $6.5 million.

4) If the company is running low on funds and the sales currently are low, the company is said to have an excess of currency. In this situation the option contract would be the best to use. AIFS should not enter into this contract but instead they should buy Euros at the current spot rate. If the company is in the money and sale are low a forward contract should be used for larger gains because of its nature to be less expensive then options contracts. On the other hand option contracts would be better if sales are high

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