At the start of the sample period, your company receives 2,500,000 Euros

FIN 5535
Project: Currency Hedge, Due date: 8/10/2015 (end of week 7)

The sample period for this project
is from 6/30/2015 to 7/31/2015.
At the start of the sample period,
your company receives 2,500,000 Euros, which you plan to convert into US
dollars at the end of sample period for tax reasons.
Since EUR/USD exchange rate changes
every day, the US dollar value of your Euros at the end of the sample period
will be uncertain. Your objective is to lower this exchange rate risk. You
decide to hedge this risk using EUR/USD (=Euro FX) futures contract expiring in
September 2015.
10 Questions (each is worth 1
point):
1. What’s the difference between
Euro FX futures and Eurodollar futures?
2. You are converting the currency
in late July/early August. But why do we use September 2015 futures instead of
July 2015 or August 2015 futures? And what is the contract size of the Euro FX
futures contract?
3. How many Euro FX futures contract
do you have to buy or short to hedge the risk? Specify explicitly whether you
are taking a long or short position of the Euro FX futures.
4. For every trading day (no
weekends/holidays) during the sample period, collect the daily EUR/USD exchange
rate and EUR/USD futures price. See hint #2 for how to collect historical
futures prices. Construct a spreadsheet showing both prices.
5. Assume the initial margin
requirement is $4,000 per contract. Calculate the initial margin account
balance.
6. Calculate the futures daily
gains, cumulative gains every day.
7. Calculate the margin account
balances every day. Is there a margin call, when the maintenance margin
requirement is $3,300 per contract? If yes, add the required cash to the margin
account to restore initial margin account requirement.
8. Calculate the values of your
unhedged position (= 2.5 mil Euros in US $), and the values of your hedged
position (= unhedged value + futures cumulative gain).
9. Plot the unhedged values and
hedged values in Q7 over time. In addition, calculate the standard deviations
of the unhedged values and that of the hedged values in Q7. Discuss the
results.
10. Using Q9 answers, confirm that
you successfully lowered the exchange rate risk.
Hints:
1. Your spreadsheet must include at least the following
columns for each trading date: 1) Date, 2) EUR/USD exchange rate, 3) EUR/USD
futures price, 4) Futures daily gain, 5) Cumulative gain, 6) Margin account
balance, 7) Unhedged value and 8) Hedged value (= unhedged value + cumulative
gain).
2. Use.tradingcharts.com/currency_futures.html”>.cmegroup.com/”>http://www.cmegroup.com/ (where EUR/USD futures contracts
are traded) to locate the EUR/USD futures and collect the futures prices. The
screenshot below shows that the EUR/USD futures price on 12/22/2014 was 1.2239.
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Video tutorial:.youtube.com/watch?v=qBPkVOjOvDA”>https://www.youtube.com/watch?v=qBPkVOjOvDA

3. To collect EUR/USD exchange rate, you can use any
resource such as Bloomberg, Google or Yahoo . However, using a resource with 4
decimal points will give you the best results showing a successful hedging at
the end.

4. As of 6/29/2015, 2.5 mil Euros is worth $2,778,500. If
your unhedged values differ more than $500,000 from this number, check your
data and re-calculate.

5. How to calculate futures daily gains, cumulative gains is
explained in page 26-27 or review Week 1 files.