Blades, Discussion 5

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Blades, Chapter 5 Discussion

1. If Blades uses call options to hedge its yen payables, should it use the call option with the exercise price of $.00756 or the call option with exercise price of $.00792? Describe tradeoff.

Blades should use the call option with exercise price of $.00756 because the amount paid for yen if this option is exercised is $94,500 as oppose to $99,000 if the other call option is used. The tradeoff is that Blade would have to pay no more than 5% above the existing spot rate (which is what they wanted) if this option is used and 10% if the other option is used. Also, the option premium is no more than 1.5% if Blade used this call option. 2. Should Blades allow its yen position to be unhedged? Describe the tradeoff?

No, Blades should not allow their yen position be unhedged due to the historical volatility of the yen. However, Blades could monitor the stability of the yen in the next two months and possibly remain unhedged if the yen remains stable. The tradeoff is that the future price on the yen could have a slight discount from the existing spot rate, which could affect Blades total premium.

3. Assume there are speculators who attempt to capitalize on their expectation of the yen's movement over the 2 months between the order and delivery dates by either buying or selling yen futures now and buying or selling yen at the future spot rate. Given this information, what is the expectation on the order date of the yen spot rate by delivery date? Answer should be one number.

The expectation on the order date of the yen spot rate by the delivery date is $.0072.

Advantages of call options are: 1) flexibility of determining if the stock is conservative or high-risk; 2) Gain leverage without committing to a trade; 3) Limited Risk to the option premium (except when writing options for a security that is not already owned);…...

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