FIN 350, International Finance
In Class Problems –Currency Derivatives
1. Winston Toys, a U.S. based firm distributes toys in Europe and expects to receive 750,000 EUR in three months. Winston is considering a put option (XDE) to sell those receivables in three months. Put option with a strike price of $1.30 and expiration in three months is available for Euros at a premium of 2.04 USD. Winston will incur a financing cost at the rate of 4.5% per year for any premium that needs to be paid for the option.
Winston has prepared the following probability chart for values of the EUR in the next three months.
(a) Calculate the net cash flow in each scenario if Winston hedges using the put option.
| Possible Value | Probability | Net Cash Flow |
| 1.25 | 25% | |
| 1.30 | 25% | |
| 1.35 | 20% | |
| 1.40 | 15% | |
| 1.45 | 15% |
(b) What is the mean and standard deviation of net cash flows without hedging, and what is it after hedging?
(You can use your financial calculator for this purpose)
