Sep 21, 2017 term paper 2

GLOBALCORP MAKES A SALE OF GOODS TO A FOREIGN FIRM AND WILL RECEIVE FC 380,000 THREE MONTHS…

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Globalcorp makes a sale of goods to a foreign firm and will receive FC 380,000 three months later. Globalcorp has incurred costs in dollars and wishes to make definite the amount of dollars it will receive in three months. It plans to approach a foreign bank to borrow an amount of local currency such that the principal plus interest will equal the amount Globalcorp expects to receive. The interest rate it must pay on its loan is 28%. With the borrowed funds, Globalcorp purchases dollars at the current spot rate that are invested in the United States at an interest rate of 8%. When Globalcorp receives the FC 380,000 at the end of three months, it uses the funds to liquidate the loan at the foreign bank. The effective tax rate in both countries is 40%.

a) What is the net amount that Globalcorp will receive if the current spot rate is FC 1.90 to the dollar?

b) How much less is this than the amount Globalcorp would have received if the remittance had been made immediately instead of three months later?

c) At what forward rate of exchange would the amount received by Globalcorp have been the same as that it would have obtained using the capital markets? Would Globalcorp have sold the FC forward short or long to hedge its position?

d) If a speculator took the opposite position from Globalcorp in the forward market for FC, would the speculator sell long or short? If the speculator received a risk premium for holding this position, would this place the current forward rate in FC above or below the expected future spot rate in FC per dollar?


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