Chart 2 Notes
The next chart shows the projected cost of hedging the future value of a stream of Hong Kong dollar payments against the US dollar at a fixed rate of US$1.00 HK$7.75. The far right hand column shows the forward rates the market would demand if forward contracts were to be concluded with no periodic payments. The following comments may be helpful:
1. The rates and the periodic payment percentages were provided by an expert in this field, on the basis of conservative assumptions.
2. The cost of buying US dollars forward (as expressed in the exchange rate) goes up with time, and does so quite sharply if there is no annual payment to lower the risk being taken on by the institution selling the US dollars. In order to fix a particular rate, a periodic payment would be essential.
3. The example chosen - a fixed rate of 7.75 - was chosen because it is close enough to the current rate to be acceptable to potential participants; as it is a little below the prevailing rate, it reduces somewhat the cost of the arrangement. There are many other possible permutations: it would, for example be possible to make the periodic payment the determining factor, and show what rate of interest could be guaranteed for a particular level of periodic payment.
No comments yet.
Private notes are available after approval.