Impact of Information on Curre

Impact of Information on Currency Option Premiums As of 10:00 a.m., the premium on a specific 1-year call option on British pounds is $.04. Assume that the Bank of England had not been intervening in the foreign exchange markets in the last several months. However, it announces at 10:01 a.m. that it will begin to frequently intervene in the foreign exchange market in order to reduce fluctuations in the pound’s value against the U.S. dollar over the next year, but it will not attempt to push the pound’s value higher or lower than what is dictated by market forces. Also, the Bank of England has no plans to affect economic conditions with this intervention. Most participants who trade currency options did not anticipate this announcement. When they heard the announcement, they expected that the intervention would be successful in achieving its goal. Will this announcement cause the premium on the 1-year call option on British pounds to increase, decrease, or be unaffected? Explain.

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Impact of Information on Curre

Impact of Information on Currency Option Premiums. As of 10:00 a.m., the premium on a specific 1-year call option on British pounds is $.04. Assume that the Bank of England had not been intervening in the foreign exchange markets in the last several months. However, it announces at 10:01 a.m. that it will begin to frequently intervene in the foreign exchange market in order to reduce fluctuations in the pound’s value against the U.S. dollar over the next year, but it will not attempt to push the pound’s value higher or lower than what is dictated by market forces. Also, the Bank of England has no plans to affect economic conditions with this intervention. Most participants who trade currency options did not anticipate this announcement. When they heard the announcement, they expected that the intervention would be successful in achieving its goal. Will this announcement cause the premium on the 1-year call option on British pounds to increase, decrease, or be unaffected? Explain.

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Impact of Information on Curre

Impact of Information on Currency Futures and Options Prices. Myrtle Beach Co. purchases imports that have a price of 400,000 Singapore dollars, and it has to pay for the imports in 90 days. It can purchase a 90-day forward contract on Singapore dollars at $.50 or purchase a call option contract on Singapore dollars with an exercise price of $.50. This morning, the spot rate of the Singapore dollar was $.50. At noon, the central bank of Singapore raised interest rates, while there was no change in interest rates in the United States. These actions immediately increased the degree of uncertainty surrounding the future value of the Singapore dollar over the next 3 months. The Singapore dollar’s spot rate remained at $.50 throughout the day.

a. Myrtle Beach Co. is convinced that the Singapore dollar will definitely appreciate substantially over the next 90 days. Would a call option hedge or forward hedge be more appropriate given its opinion?

b. Assume that Myrtle Beach uses a currency options contract to hedge rather than a forward contract. If Myrtle Beach Co. purchased a currency call option contract at the money on Singapore dollars this afternoon, would its total U.S. dollar cash outflows be more than, less than, or the same as the total U.S. dollar cash outflows if it had purchased a currency call option contract at the money this morning? Explain.

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