QUESTION
ABC Company is a US based corporation, it has ordered DM 625,000 of merchandise from a German supplier and the payment is due on the 21st of September 2010. Suppose that ABC may buy option contracts with a strike price of $0.60/DM and the expiration date is 21st September 2010 and selling at a premium of USD 0.0107. Each call option gives the holder the right to purchase DM 125,000
Required-
a) (1) How many call option contracts must be purchased by ABC in order to hedge against the currency risk of the payment of DM 625,000 on the 21st September 2010?
(2) How much will be paid to purchase the contracts?
b) (1) Suppose that on the 21st of September 2010, the spot rate is $ 0.625/DM
Will the call option be exercised?
(2) How much will it cost ABC to pay for its supply?
(3) How much will ABC save by exercising the options contracts?
c) (1) Suppose that on the 21st of September 2010, the spot rate is $ 0.70/DM
Will the call option be exercised?
(2) How much will the merchandise cost ABC?
d) (1) Suppose that on the 21st of September 2010, the spot rate is $ 0.575/DM
Will the call option be exercised?
(2) How much will be merchandise cost the ABC?