SUBMITTED BY

M.P.K SRIHARI M20202709

TABLE OF CONTENTS

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#VALUE!
Current exchange rate GBP/ INR 100

You have imported goods and have to pay GBP 5000 after 3 months

If GBP/INR becomes higher than 100

You will be happy / or sad?

If GBP/INR becomes less than 100

You will be happy / or sad?

Thus business is exposed to fluctuation in currency rate

3 month forward in GBP is going at Rs 105

SHOW
A What is the risk that the business carry?
B How do you use Forwards to hedge the risk?
C Show Hedger's & Speculator's Payoffs of Forwards hedge if the GBP price after 3 months is INR 95, 98, 102, 105, assuming
i) Cash Settlement
ii) Physical Delivery
D Plot a graph showing Payoff for Hedger and Speculator

ANSWERS

A The business risk is if coversion rate becomes more than 100 then we need to pay more INR per GBP

B I can fix the price of GBP by long position in GBP Forwards to hedge my risk

C
i) CASH SETTLEMENT
Spot price ( Market price after 3 months) Contracted price Payoff from forward Buy from market at
95 105 -10 -95
98 105 -7 -98
102 105 -3 -102
105 105 0 -105
SPECULATOR PAYOFF
ii) PHYSICAL SETTLEMENT
Spot price ( Market price after 3 months) Payoff from forward contract
95 105
98 105
102 105
105 105

Hedger's payoff VS Speculator's payoff

0
94 96 98 100 102 104 106

-20

-40

-60

-80

-100

-120
 -80

-100

-120

Hedgers payoff Speculator payoff

INR Depreciates / GBP Appreciates

INR Appreciates / GBP Depreciates

Final payoff
-105
-105
-105
-105
HEDGERS PAYOFF
Today is ###
RIL shares are currently quoted at Rs 2500 per share
I want to buy shares of Reliance Industries Ltd (RIL)
But cannot buy today as don't have enough money to invest
However I will get my Fixed Deposit of Rs 50,000 getting matured
I plan to invest that money in shares of RIL
Dec Forward of RIL is going at Rs 2600 per share

I fear the prices of RIL shares will go up

If prices go down, I am happy
But if prices go up, I am unhappy

What do I do?

SHOW
A How do I use Forwards to hedge my risk? What position will I take in Forwards?
B Show Hedger's & Speculator's Payoffs for Forwards hedge if the price of RIL share in Dec 2021 end up being 2000, 2200, 2700, 3000, assuming
i) Cash Settlement
ii) Physical Settlement
C Plot a graph showing Payoff for Hedger and Speculator

A) I can fix the price in RIL share by Long Position in reliance Forwards to hedge my risk

i) CASH SETTLEMENT
Spot price ( Market price after 3 months) Contracted price Payoff from forward Buy from market at
2000 2600 -600 -2000
2200 2600 -400 -2200
2700 2600 100 -2700
 3000 2600 400 -3000
SPECULATOR PAYOFF

ii) PHYSICAL SETTLEMENT

Spot price ( Market price after 3 months) Payoff from forward contract
2000 2600
2200 2600
2700 2600
3000 2600

Hedger's payoff VS Speculator's

payoff

1000
500
0
1800 2000 2200 2400 2600 2800 3000 3200
-500
-1000
-1500
-2000
-2500
-3000

Hedgers Payoff Speculators payoff

 in Dec 2021

700, 3000, assuming

Final payoff
-2600
-2600
-2600
-2600
HEDGERS PAYOFF