CFA CFA level 3 CFA level 3 CFA level 3 CFA level 3 CFA level 3 CFA level 3 finquiz item set answers, study session 7, reading 19

Reading 19 Currency Management: An Introduction FinQuiz.com   FinQuiz.com CFA Level III Item-set - Solution Study Session June 2018 Copyright © 2010-2018 FinQuiz.com All rights reserved Copying, reproduction or redistribution of this material is strictly prohibited info@finquiz.com FinQuiz.com © 2017 - All rights reserved Reading 19 Currency Management: An Introduction FinQuiz.com   FinQuiz Level III 2018 – Item-sets Solution Reading 19: Currency Management: An Introduction   Question ID: 19190 Correct Answer: B Dependable is long the INR and will need to sell INR to establish a hedged position One month ago, the firm would have sold INR 10 million at an all-in rate of INR/USD 60.14 (59.99 + 1454/10000)   Question ID: 19191 Correct Answer: A The value of the hedged position should be increased from INR 10.0 million to 12.5 million following an increase in the market value of the underlying assets Previously, the firm had sold INR 10 million To rebalance the hedge, Dependable will sell INR 2.5 million forward B is incorrect because the hedge is rebalanced in the forward market and not in the spot market C is incorrect because purchasing INR 2.5 million will reduce the size of the original hedged position given that the firm has originally sold INR   Question ID: 19192 Correct Answer: C As stated previously, the firm’s hedged position is established by selling INR/buying USD The base currency (USD) in the P/B quote is selling at a forward premium As contract maturity approaches, the base currency’s price will roll down the curve Settling a forward contract at contract expiration would require selling USD and purchasing INR The firm will incur a loss from buying the base currency at a high price and selling it at a low price This loss translates into a negative roll yield The decline in the INR/USD spot rate between one month ago and today further confirms this negative roll yield   Question ID: 19193 Correct Answer: A By purchasing ATM call options, the firm has established a hedged position involving the sale of SGD and purchase of USD The firm requires protection against an appreciating USD, but at the same time wants to reduce the cost of hedging Option A is an appropriate strategy Being long a 25-delta risk reversal would involve a long OTM call position and a short OTM put position The sale of the put option will bring in option premium which will help reduce hedging costs Even though the sale of the put option will reduce the ability to participate in upside potential (depreciation of the USD), the firm is willing to accept this risk Relative to option C, a long risk reversal position will provide stronger protection Option B is an inappropriate strategy because it involves an in-the-money option which is more expensive than the current position FinQuiz.com © 2017 - All rights reserved Reading 19 Currency Management: An Introduction FinQuiz.com   Option C is an inappropriate strategy because it will only provide protection against an appreciation of the USD from 1.17 to 1.20 An appreciation beyond 1.20 will trigger the short call position and generate losses on the hedged position   Question ID: 19194 Correct Answer: B Given that the volatility of the LKR/USD is forecasted to increase and that Waugh is uncertain of the likely direction of the movement, a long straddle or a strangle position will be appropriate Since Waugh would like to minimize the cost of the hedge, a strangle is a more appropriate choice since it involves purchasing OTM call and put options A is incorrect This is because it illustrates a straddle position which is more expensive relative to the strangle C is incorrect because a long risk reversal is more appropriate for hedging purposes and not for exploiting views on currency volatility   Question ID: 19195 Correct Answer: C A non-deliverable forward is suitable in this scenario This is because the capital controls imposed by the Thai authorities will restrict any physical settlement of the currency forward NDFs are cash settled and denominated in a major currency; in this case, the USD which is the base currency This means that settlement will be made in the base currency Option A is an inappropriate strategy because although purchasing a call option will protect against an appreciating USD, the firm may be unable to deliver THB to purchase the relevant USD due to the capital controls imposed Option B is an inappropriate strategy because writing a put option is not a suitable hedging strategy The firm is not protected against an appreciation of the USD FinQuiz.com © 2017 - All rights reserved  .. .Reading 19 Currency Management: An Introduction FinQuiz. com   FinQuiz Level III 2018 – Item- sets Solution Reading 19: Currency Management: An Introduction   Question ID: 191 90 Correct... which is more expensive than the current position FinQuiz. com © 2017 - All rights reserved Reading 19 Currency Management: An Introduction FinQuiz. com   Option C is an inappropriate strategy... rate between one month ago and today further confirms this negative roll yield   Question ID: 191 93 Correct Answer: A By purchasing ATM call options, the firm has established a hedged position