- •Chapter 3: The international financial marketplace key chapter concepts
- •Glossary of new terms
- •Financial challenge
- •Introduction
- •The global economy and multinational enterprises
- •Table 3—1
- •Table 3—1
- •Foreign currency markets and exchange rates
- •Direct and Indirect Quotes
- •Table 3 — 2 Spot Foreign Exchange Rates
- •Spot Rates
- •Forward Rates
- •Table 3 — 3. Forward Foreign Exchange Rates
- •Foreign Currency Futures
- •Table 3-4. Futures Contract Quotations
- •Foreign Currency Options
- •The Eurocurrency Market
- •Factors that affect exchange rates
- •Covered Interest Arbitrage and Interest Rate Parity
- •Purchasing Power Parity
- •Expectations Theory and Forward Exchange Rates
- •The International Fisher Effect
- •An Integrative Look at International Parity Relationships
- •Figure 3—1. International Parity Conditions: An Integrative Look
- •Forecasting future exchange rates
- •Using Forward Rates
- •Using Interest Rates
- •Foreign exchange risk
- •Transaction Exposure
- •Table 3-5. Example of Transaction Exchange Rate Risk
- •Economic Exposure
- •Translation Exposure
- •Table 3 – 6. Effect of a Decrease in the Exchange Rate on American Products' Balance Sheet
- •International finance and the practice of financial management
- •Ethical issues: payment of bribes abroad
- •Summary
- •Questions and topics for discussion
- •Self test problems
- •Problems
- •Solutions to self test problems
Table 3-4. Futures Contract Quotations
Source: Wall Street Journal (December 2, 1993)
CONTRACT DATE |
OPEN |
HIGH |
LOW |
SETTLE |
CHANGE |
LIFE HIGH |
TIME LOW |
OPEN INTEREST |
DEUTSCHE MARK (CME)— 125,000 marks; $ per mark |
||||||||
Dec |
.5824 |
.5832 |
.5794 |
.5798 |
-.0023 |
.6650 |
.5657 |
135,630 |
Mr94 |
.5782 |
.5792 |
.5755 |
.5760 |
-.0022 |
.6205 |
.5646 |
18,420 |
June |
.5760 |
.5760 |
.5740 |
.5743 |
-.0021 |
.6162 |
.5607 |
338 |
Est. vol 71,816; vol Tues 63,311; open int 154,300; +16,291 |
that the opening price of the December 1993 contract was $0.5824/DM, the high price for the day was $0.5832, the low price for the day was $0.5794, and the closing price (settle) was $0.5798. This was a decline of $0.0023 from the previous day. Over the lifetime of this contract, it traded from a high of $0.6650 to a low of $0.5657. Currently, there are 135,630 contracts (open interest) such as this one in existence. As the last trading date approaches, the open interest declines dramatically and only a small minority of the contracts will actually be in existence (and therefore require delivery of DM from the seller to the buyer) at expiration. Also, this table indicates much more trading interest in the near-term contract (December) than in the longer-term contract (June 1994). Finally, the last line in Table 3-4 indicates that 71,816 contracts traded on December 1, compared with 63,311 contracts on the previous day. The number of contracts outstanding grew by 16,291 contracts on December 1 to a total of 154,300.
Foreign Currency Options
Whereas forward and futures currency contracts reflect an obligation to either buy or sell a currency at a future date, options are contracts that give the option buyer the right, but not the obligation to either buy or sell a fixed amount of a foreign currency at a fixed price at a time up to, or at the expiration date of the option. There are two fundamental types of options. A call option is an option to buy something, such as foreign currency, and a put option is an option to sell (foreign currency). An American option gives the holder the right to buy (call options) or sell (put options) the underlying currency at any time prior to expiration. In contrast, a European option gives the holder the right to buy or sell the underlying currency only at expiration. Large commercial banks offer customized options for all major currencies with exercise periods of up to a year. In addition, foreign currency options are traded on the Philadelphia Stock Exchange and the Chicago Mercantile Exchange. Foreign currency options provide an alternative to forward and futures contracts for firms seeking to control their foreign exchange risk. Chapter 19 develops the principles of option valuation and illustrates the use of options to hedge foreign currency risk.