标题: hedge or not hedge [打印本页] 作者: Dapper425 时间: 2011-7-11 19:45 标题: hedge or not hedge
A French investor holds a UK bond. He believes that Euro will depreciate less relative to UK Pound than what the forward rate between the two currencies would indicate assuming interest rate parity.
Should he hedge the exposure to UK Pound?作者: Windjammer 时间: 2011-7-11 19:45
He should not hedge because he expects the pound to be stronger than the forward market predicts作者: Unforseen 时间: 2011-7-11 19:45
Not hedge. He will lose if he hedges.作者: skycfa 时间: 2011-7-11 19:45
I'm having trouble without #s being presented.
Assuming 1.5 EUR/GBP
Euro rate = 5%
UK Rate = 1%
1.5594 EUR/GBP is what IRP says.
However, he believes EUR will depreciate less, so let's say 1.52 EUR/GBP is his projection.
When he converts the GBP to EUR, he can either get 1.5594 EUR per GBP or 1.52 EUR per GBP.
I'm saying he should hedge, is my logic somehow off?
NO EXCUSES作者: aidebaobao 时间: 2011-7-11 19:45
So:
Euro: less depreciation than market = GBP: less appreciation than market, can we assume that? If so, then he should hedge and lock in the "expensive" GBP.
NO EXCUSES作者: bkballa 时间: 2011-7-11 19:45
actually this is trickier than i thought. i misread at first. the foreign currency (the pound) is actually appreciating. but the investor believes that it will appreciate less than the market says it will.
so i think he should hedge. he should go long pound in the forward market.
is that right?作者: wake2000 时间: 2011-7-11 19:45
this is the assumption i made. therefore, since he predicts the pound to perform worse, the pound is selling "expensive" in the forward market and he should go short pound.
i am using the logic on page 94-95 of schweser book 3, but this is a slightly different example since in the text the question involves a depreciating foreign currency.
would be curious from deriv what the answer is.
Edited 1 time(s). Last edit at Thursday, May 26, 2011 at 01:09AM by the show NY.作者: PalacioHill 时间: 2011-7-11 19:45
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Edited 1 time(s). Last edit at Thursday, May 26, 2011 at 01:10AM by the show NY.作者: bpdulog 时间: 2011-7-11 19:45
I don't have the answer since I made it from example 19 on V4, P137.
I think bp is right. Here is my thinking:
"Euro will depreciate less relative to UK Pound than what is implied by forward market".
is equivalent to
"UK Pound will appreciate less relative to Euro than what is implied by forward market."
So, he will be better off if hedging UK pound.
Edited 1 time(s). Last edit at Thursday, May 26, 2011 at 01:11AM by deriv108.作者: thommo77 时间: 2011-7-11 19:45
general (but related) question: is it still called heding if you go long? if forward rates said the pound was expected to appreciate 5% but you believed it would appreciate 3%, and you went long pound at 3%, is this a "hedge"?
or are you speculating?作者: canadiananalyst 时间: 2011-7-11 19:45
This is probably the worst we can get in the real exam... this question came to me because I met a sample/mock question similar to this. It twists the info to make it look hard, but if we stand firm at where we are, the problem will be as easy as any other question. I often got wrong if I wasn't careful about the currency quote. For example, it gives YEN/$ while YEN is the foreign currency...more practice will help.
Thank you guys, it helps me to think it from a different view. Using numbers is a very good idea.作者: mar350 时间: 2011-7-11 19:45
the show NY Wrote:
-------------------------------------------------------
> actually this is trickier than i thought. i
> misread at first. the foreign currency (the
> pound) is actually appreciating. but the investor
> believes that it will appreciate less than the
> market says it will.
>
> so i think he should hedge. he should go long
> pound in the forward market.
>
> is that right?
Yep that was my thinking as well. Best way to remember this IMO is this: if the FC appreciates more or depreciates less than that predicted by IRP - Hedge. If opposite, do not hedge.
You can memorize that or sit back and think about it for a second: if I hold an asset in the UK and I think the pound is going to appreciate less than what the forward rate says, I should lock in the forward rate because its higher -> I'll get more for my money this way.作者: lcw77 时间: 2011-7-11 19:45
This how I see it:
You are the French guy holding UK portfolio.
Any return will be calculated as follows:
Return in domestic/home currency [RDC] = Return in foreign currency [RFC] + Return from exchange rate changes [RXR]
RDC = RFC + RXR
Where RXR can be estimated as RDC - RFC based on the IRP
Now remember that an appreciation of the GBP (in this case) is good for the French investor, as he will be getting more EUR for each GBP he invested, once he converts (translates) his UK portfolio returns into EUR.
Going back to your example
REUR = 5%
RGBP = 1%
From the French guy point of view.
RDC = RFC + RXR ------->>>> REUR = RGBP + RXR
Market Expectation/IRP
RXR = RDC - RFC ------->>>> RXR = REUR - RGBP = 5% - 1% = 4%
(Meaning that the Euro, based on actual market rates should depreciate about 4%, which is a good thing for him)
Manager Expectations
BUT, he has different expectations, and believes that the EUR will depreciate less, let’s say only by 2%.
Now he has two options: to hedge or not to hedge
To hedge
He goes long a forward and “locks up” the exchange rate. He agreed to convert a certain amount of GBP to EUR assuming a depreciation of the EUR relative to the GBP of 4%
Not to hedge
He does nothing, and if his expectations are correct, at the end of the period the depreciation of the EUR relative to the dollar is only 2%; then his return can be calculated as follows:
RDC = RFC + RXR = 1% + 2% = 3%
By, hedging his position, he has effectively locked up a 5% return, which is higher than the 3%.
UK Point of View
The opposite is true for UK investors holding EUR denominated portfolios. Since the GBP will appreciate, the RXR will be a negative number. Since the expectation is for less depreciation than what the IRP indicates, they are better off by not hedging.
