Currency exposures overview
This part is a review of the theory. You need to provide a brief explanation on the types of currency exposures involved in the case and their counter measures/hedging tools. The real test here is whether you can use the limited space to convey the most important points in understanding these concepts, instead of robotically listing every detail in the lecture notes.
(12 marks)
Higher expectation for answering this part is that you perform a literature review. Research papers, business reports and web information regarding the definition and example of currency exposures and their counter measures should be summarised and critically commented. Proper referencing is also needed according to the Harvard style referencing guidance.
(3 marks)
2.2 hedging recommendations (400 words)
Demonstrate different ways of hedging with current market data: The very basic hedging techniques are forward hedge and money market hedge. For Forward hedge, please see Lecture 3. For Money Market Hedge, please see Lecture 4a. More examples can be seen in their corresponding Tutorials. The demonstration should be a combination of graphs and numbers, with words to facilitate interpretation.[unique_solution]
You need to find reliable sources of data (i.e. interest rates of two countries, FX spot and forward rates) for current market data for your demonstration above. Please pay attention to the data format of your website, as some may use prices, but some may use percentages or basis points relative to a benchmark price. Remember to provide the source of your data in your report, so that the accuracy can be verified. A good practice in providing the source is to generate a screenshot of the web page with the data you use in your report on screen. Put the screenshots in the appendix rather than in the main body of the report.
Compare the hedging strategies in your demonstration and make recommendations on which is better.
(20 marks)
What would happen if there’s transaction costs (i.e. bid-ask spreads for both FX spot and forward rates)? Hint: spot bid-ask for money market hedge, and forward bid-ask for forward hedge. See whether this will change your recommendation.
(5 marks)
2.3 Speculation v.s. Hedging (200 words)
Base your expectation of the FX rate on the Parity conditions in Lecture 2, i.e. the RPPP and expected inflation is needed for the forecasting. Find analysts’ report online about future inflation to facilitate your application of RPPP.
(10 marks)
Find analysts’ report directly on future trend of the FX rate.
From the two forecasts, do you want your exposure partly open for speculation? The more confident are you, the more percentage should be left open.