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Deen Co

Deen Co is a UK-based company which has the following expected transactions.

One month: Expected receipt of $240,000

One month: Expected payment of $140,000

Three months: Expected receipts of $300,000

The finance manager has collected the following information:

Spot rate ($ per £):                                1.7820 ± 0.0002

One month forward rate ($ per £):        1.7829 ± 0.0003

Three months forward rate ($ per £):    1.7846 ± 0.0004

Money market rates for Deen Co:

 

Borrowing

Deposit

One year sterling interest rate:

4.9%

4.6%

One year dollar interest rate:

5.4%

5.1%

Assume that it is now 1 April.

Required:

A. Discuss the differences between transaction risk, translation risk and economic risk.
B. Calculate the expected sterling receipts in one month and in three months using the forward market.
C. Calculate the expected sterling receipts in three months using a money-market hedge and recommend whether a forward market hedge or a money market hedge should be used.
D. Discuss how sterling currency futures contracts could be used to hedge the threemonth dollar receipt.

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