American Rapid Rail Inc. (ARR) has just signed a contract to purchase a high-speed train from Shinkasen Inc., a manufacturer in Japan for ¥14.95 billion. The purchase was made in November 2021 with payment due six months later in May 2022. Because this is a sizable contract for the firm and because the contract is in Yen rather than dollars, ARR is considering several hedging alternatives to reduce the exchange rate risk arising from the sale. To help the firm make a hedging decision you have gathered the following information.

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The spot exchange rate, when the contract is signed, is ¥115.41/$

The six-month forward rate is ¥115.39/$

ARR’s forecast for 6-month spot rates is ¥115.43/$

1.If ARR chooses NOT to hedge their Yen payable, the amount they pay in six months will be:

a. $129.52 million

b. $129.54 million

c. $129.56 million

d. unknown today

2.If a forward market hedge is executed, in 6 months, ARR will have to $129.52 million to buy Yen forward

b. pay $129.54 million to buy Yen forward

c. pay $129.56 million to buy Yen forward

d. sell ¥14.95 billion forward to receive $129.56 million


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