A FRENCH BANK ENTERS INTO A 6-MONTH FORWARD CONTRACT WITH AN IMPOR...
20.
A French bank enters into a 6-month forward contract with an importer to sell GBP 40 million in 6 months at
a rate of EUR 0.80 per GBP. If in 6 months the exchange rate is EUR 0.85 per GBP, what is the payoff for the
bank from the forward contract?
a.
EUR -2,941,176
b.
EUR -2,000,000
c.
EUR 2,000,000
d.
EUR 2,941,176
Correct Answer: b
Rationale:
The value of the contract for the bank at expiration: 40,000,000 GBP * 0.80 EUR/GBP
The cost to close out the contract for the bank at expiration: 40,000,000 GBP * 0.85 EUR/GBP
Therefore, the final payoff in EUR to the bank can be calculated as: 40,000,000*(0.80 – 0.85) = -2,000,000 EUR.
Section:
Financial Markets and Products
Reference:
John Hull, Options, Futures and Other Derivatives, 9th Edition, Chapter 1, “Introduction.”
Learning Objective:
Calculate and compare the payoffs from hedging strategies involving forward contracts and options.
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2015 Financial Risk Manager (FRM®) Practice Exam