Synthetic Forward Ltd. has sold goods to put call PLC. UK goods worth £ 1,000,000 are due at the end of 90 days.
Synthetic Forward has bought a put option on £ maturing in 90 days for an amount of £ 1,000,000 and simultaneously wrote a call option at the same maturity, striking price and amount. The option premiums were:
Call option $ .0060/£ Put premium $ .0015/£ Strike price $ 1.75/£ Clearly identify the cash flow now and at the end of 90 days if the then spot rate will be:
(i) $1.75/£; (b) $1.79/£. In arriving at the answer, clearly identify the proceeds from accounts receivable, option premium and proceeds from options.
(ii) The 90 day forward rate on £ is $1.756/£ today. Assuming no margin, what will be the cash flow under the hedging strategy if Synthetic Forward decided to use the forward market hedge?
(iii) Which alternative is better?
(iv) Ignoring time value and margin requirement, what should be the call premium that will make you indifferent between the two options?