Problem 21-5 Problem 21-7
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International Financial Management
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Foundations of Financial Management
Problem 21-5
Objective: Adjusting returns for exchange rates
Student Name:
Course Name:
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An investor in the United States bought a one-year Singapore security valued at 150,000 Singapore dollars.
The U.S. dollar equivalent was 100,000. The Singapore security earned 15 percent during the year, but the
Singapore dollar depreciated 5 cents against the U.S. dollar during the same time-period ($0.67/SD to $0.62/SD).
After transferring the funds back to the United States, what was the investor’s return on his $100,000?
Determine the total ending value of the Singapore investment in Singapore dollars and then translate this
value to U.S. dollars by multiplying by $0.62. Then compute the return on the $100,000.
Block, Hirt and Danielsen
Foundations of Financial Management
Problem 21-5
Instructions
Enter formulas to meet the requirements of this problem.
Information
Initial security value 150,000 Singapore Dollars
Initial security value $100,000 U.S. Dollars
Singapore interest rate 15%
Singapore security value after one year 172,500
U.S. dollar equivalent $106,950
Rate of return 6.950%
Solution
Problem 21-7
Objective: Hedging exchange rate risk
Student Name:
Course Name:
Student ID:
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You are the vice-president of finance for Exploratory Resources, Inc., headquartered in Houston, Texas. In January
2010, your firm’s Canadian subsidiary obtained a six-month loan of 100,000 Canadian dollars from a bank in
Houston to finance the acquisition of a titanium mine in Quebec province. The loan will also be repaid in
Canadian dollars. At the time of the loan, the spot exchange rate was U.S. $0.8990/Canadian dollar and the
Canadian currency was selling at a discount in the forward market. The June 2010 contract (Face value = $100,000
per contract) was quoted at U.S. $0.8920/Canadian dollar.
a. Explain how the Houston bank could lose on this transaction assuming no hedging.
b. If the bank does hedge with the forward contract, what is the maximum amount it can lose?
Foundations of Financial Management
Block, Hirt and Danielsen
Problem 21-7
Instructions
In the text spaces below, enter text that responds to the requirements of this problem.
a. Explain how the Houston bank could lose on this transaction assuming no hedging.
The Houston bank has extended a loan denominated in Canadian dollars and will be repaid in Canadian dollars.
If the Canadian dollar drops in the future (a possibility implied by the futures contract price), the Houston bank will
be paid back in a currency that is worth less at the time it is repaid than it was at the time it was borrowed.
b. If the bank does hedge with the forward contract, what is the maximum amount it can lose?
If the bank hedges by buying Canadian dollars now for $0.8990/CD and contracting to sell them in the future for
$0.8920/CD, the most it can lose is $0.0070 on the $100,000 contract or $700.
Solution