GM’s Treasury Group has asked you to hedge the negative effect of a possible dollar appreciation stemming from its Opel-Vauxhall subsidiary. GM owns…

GM’s Treasury Group has asked you to hedge the negative effect of a possible dollar appreciation stemming from its Opel-Vauxhall subsidiary.  GM owns the Opel-Vauxhall brand in the UK and Europe.  Opel-Vauxhall sends its profits back to GM in the U.S.; but since it earned its profit in foreign currencies, the European division must execute a currency exchange to send dollars to the States.  Treasury has asked that you hedge this foreign exchange exposure, thinking that if the dollar appreciates between now and the end of the year, some of the company’s profits earned overseas will be wiped out. Using futures or options contracts of no longer than one-year maturity, limit the negative effect of dollar appreciation to less than 25% of the profits Opel-Vauxhall earns.  

Base your profit forecast on readily available forecasts of the division’s profitability `and your estimates of the exchange rate risk based on forward contracts for the dollar. Use current prices for forward and options contracts, which is to say you will need to pick a specific day on which to execute your trades.

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