FUTURES

Im selling 1 million barrels of crude oil. The spot price for a barrel is $19 per barrel and the 3-month
futures price is $18.75 per barrel.

Two possible situations:

Spot price in three months proves to be $17.50: I gain $18.75-$17.50=$1.25 per barrel from the futures
but Im selling the oil for $1.25 less per barrel. I end up getting $18.75 per barrel.

Spot price in three months proves to be $19.50: I lose $19.50-$18.75=$0.75 per barrel from the futures
but Im selling the oil for $0.75 more per barrel. I end up getting $18.75 per barrel.

OPTIONS

A U.S. car producer company concluded the contract with the British company to sell cars for
the amount of 1.000.000. The sale was contracted in March, but the payment will take
place in June. In order to hedge the risk of fluctuating exchange rates, the U.S. company
decided to use put option.

Assumptions:

- Spot exchange rate: $1,5395/

- June put option: 1.000.000; $1,52 strike price; 1,5% premium
- The car producer companys forecast of spot rate in June: $1,53/
- The companys minimum acceptable excha006Ege rate: $1,4800/
The price of option would be as followed: Notional principal x Premium x Spot rate.

So it would be as: 1.000.000 x 0,015 x $ 1,5395/ = $ 23.092,5

This means that cost of June put option with strike price $1,52 would cost $23.092,5. If the
June spot rate is higher than this strike price, the option wont be exercised. In this case, the
U.S. company needs to decide whether $23.092,5 is acceptable option to eliminate the risk.

SWAPS

Company A and Company B enter into one-year interest rate swap with a nominal
value of $1 million. A offers B a fixed annual rate of 5% in exchange for a rate of
LIBOR plus 1%, since both parties believe that LIBOR will be roughly 4%. At the end
of the year, A will pay B $50,000 (5% of $1 million). If the LIBOR rate is trading at
4.75%, B then will have to pay A Company $57,500 (5.75% of $1 million, because of
the agreement to pay LIBOR plus 1%).

Therefore, the value of the swap to A and B is the difference between what they
receive and spend. Since LIBOR ended up higher than both companies thought, A
won out with a gain of $7,500, while B realizes a loss of $7,500. Generally, only the
net payment will be made. When B pays $7,500 to A, both companies avoid the cost
and complexities of each company paying the full $50,000 and $57,500.

FORWARDS

U.S. based MNC called Americano has its subsidiary in France and it is
selling hardware. MNC is expecting to receive 500 000 euros in 10 months. MNC
could agree to have forward contract to sell 500 000 euros in 10 months. The
contract can determine the forward rate to be 1 euro= 1.133 dollars. If Americano
sells forward 500 000 euros it can estimate the amount of dollars to be received in 10
months:

Cash inflow in $= Receivables x Forward rate

= 500 000 EUR x $1.133
= $566 500

This agreement fully protects MNC if currency depreciates below the contract level.
However, by locking in the forward rate, MNC gives up all benefits if the currency
appreciates. In fact, the seller of a forward rate faces unlimited costs should the
currency appreciate. This is a major drawback for many companies that consider this
to be the true cost of a forward contract hedge.