Th principal value of a portfolio in the foreign currency is valued at 35,000,000. The principal value is currency hedged using a 3 months forward contract. Both the spot and forward are .87 (Home currency) = 1 Foreign Currency. In three months the spot exchange rate is .80 Home currency = 1 Foreign Currency. What is the profit or loss on the hedge? The answer shows a profit of 2,450,000 but i am at a loss to understand how they arrived at a profit. Please explain the answer. My thinking is that i would have used the spot exchange rate in the first instance and if if that is also the forward rate is the same as the spot there should be no difference between the begining and ending value.
Hi i am new to this forum.I am 30 years and want to changie my proffesion from a home tutor to a equity analyst.Enrolled for CFA level 1 .i dont have any masters comleted my graduation wayback in 2006 and since then joined my father in farming and giving home tutions also.My bachelor grades are pathetic.
How to get into equity research without ivy mba and as i don’t have work experience in finance .
Jobs demand ivy college or 2-3 years of experience.
I am unable to find how to get into.
Any help please.,!!!
I locked in my futures contract with a value of 1 FC = 0.87 HC. Now the FC has gone down in value, as at expiration the spot price is 1 FC = 0.80
So because I locked in 35,000,000 at 0.87 HC, I get a profit of 35,000,000 * (0.87-0.80) = 2,450,000 HC.
The spot when you bought the forward contract is irrelevant in this question. Hope this helps.
Instead of hijacking a thread, why dont you ask this question separately as a thread my friend? Yes, just because you do CFA nobody would give you an equity research job. Thats the sad truth. Good luck!
it might make sense to think of value of contract = -1 * position sold * (Ft - F0)
= -1 * 3.5M * (0.80 - 0.87)
and the two negative terms multiply out to give you a profit.
In case you buy -> position bought * (final - beginning)
the formula is consistent.
There is something wrong with the statement of the question ( and hence the answer ).
asset is currency hedged (“The principal value is currency hedged”).
So they would have shorted the foreign currency .
Question assumes the asset did not change value in the 3-months. OK. In home currency terms the asset appreicated owing to currency appreciation . and the forward contract ensures that you hand over the gains to the forward contract dealer ( because you’re short the currency ) . So net appreciation in home currency terms is zero .
Are you sure you stated the question correctly ? I am probably wrong here but please correct me if.
sri,
are you distinguishing between the gain/loss on the hedge itself and the gain/loss on the Portfolio?
Portfolio - with no increase in the value of the Portfolio in Foreign Currency terms (assuming it remained 35 M ) and you hedged with the forward currency contract -\> Position loses 2.45 M, Hedge gains 2.45 M$ - and net gain/loss is 0.
Hedge position -gains 2.45 M$. [This is only the Forward currency contract that was sold].
@ sooraj :Thanks for your reply…! Than what else i have to do to get into equity research .plese help me out…! For my single question i don’t want to start a new thread.
Actually this question is taken from the level 3 2011 exams. Dont recall the question number but is second part of the VAR / Currency management question.
Hey, it is asking profit on Hedge:
So you are long FC so go short on forward
Sell Forward 0.87 Buy back Forward 0.8 Net Profit 0.07
Total Profit on Hedge = 0.07 * 35,000,000
Total Profit on Portfolio + Hedge = Zero
Thanks
The aspect that confuses me with this transaction has to with mechanics of shorting a forward contract. The way I see it I agreee to deliver the portfolio value of 35 M (foreign currency ) in three months in exchange for (.87 fgn curr ) per dollar. In other words regardless of the spot rate in 3 month i will receive 30,450 in the home currency. So the spot exchange rate on the day the transaction is completed is .80. It appears to me that the answer is saying that you agree to sell at .87 but can buy the currency at the spot rate of .80 and therefore the difference is what is leading to the profit. I see the spot rate as irrelevant and therefore if you enter the transaction when the spot rate is .87 and the forward is also priced at .87, there there should be no change between the end value and the begining value of the initial sum. I must be missing something. Clarification on this issue would be apreciated.
OK I read the question in the CFA exam paper and I understood cfahead’s question.
spot rate at the beginning of the period and fwd rate for 3 months are expected to be same initially. If this is still true after 3 months i.e. the LHS/PLN rate stays same at 0.87 , then no gain or loss is taken on the forward.
But actually the LHS currency depreciated after 3 months .
So a short forward contract makes money ( $2.45 M ) as cpk pointed out .
Someof that money made on fx is lost in the loss in LHS on the portfolio itself because equities side lost big