1. What is the Foreign Exchange Risk faced by the Lufthansa?
Ruhnau expected if the U. S. dollar continued to appreciate. it would make 3. 3DM/USD and at the same clip he besides personally believed that the DM/USD exchange rate would fall from 3. 17DM/USD to between 2. 45 and 2. 40 DM/USD by January 1986. Unfortunately. he was non certain when this depreciation would get down. If it did non get down before January 1986. he felt the U. S. dollar could be every bit high as 3. 40 DM/USD in January 1986.
2. What options did Lufthansa’s CEO was sing and why?
1. Make nil and delay to see what the exchange rate is like in January 1986.
2. Cover some or the full purchase monetary value with forward contracts. This scheme would lock in the DM monetary value and take any uncertainness. I. The one twelvemonth frontward rate Lufthansa’s bank was willing to offer for such a big dealing to purchase U. S. dollars in January 1985 was 3. 20 DM/USD.
3. Cover some or all of the cost with foreign currency put options. This scheme would lock in a maximal monetary value for the aircraft but besides let Lufthansa to pay a lower monetary value if the U. S. dollar depreciated as he expected. I. A put option ( the right to sell DM at 3. 20 DM/USD in one twelvemonth ) was being sold for a premium of six per cent of the figure of DM being sold if the option is exercised.
4. Borrow DM to purchase U. S. dollars today and put them for one twelvemonth. This scheme would lock in the monetary value at today’s topographic point exchange rate. The loan could be repaid utilizing the financess to be made available for the purchase in one twelvemonth. I. In January 1985 the topographic point exchange rate was 3. 17 DM/USD. the Eurocurrency U. S. dollar one twelvemonth involvement rate was 9. 5625 per cent and the Eurocurrency one twelvemonth DM involvement rate was 6. 3125 per cent.