ExpertEasy2 marksMultiple Choice
ACCA · Question 15 · Risk Management
Section A
TitaniumTech imports rare-earth metals and frequently faces foreign exchange transaction risk. The treasury team is debating whether to use forward exchange contracts or currency options to hedge a large upcoming payment.
Which of the following is a distinct advantage of using a currency option over a forward contract?
Section A
TitaniumTech imports rare-earth metals and frequently faces foreign exchange transaction risk. The treasury team is debating whether to use forward exchange contracts or currency options to hedge a large upcoming payment.
Which of the following is a distinct advantage of using a currency option over a forward contract?
Answer options:
A.
Options are legally binding obligations to exchange currency, providing absolute certainty.
B.
Options do not require an upfront premium to be paid.
C.
Options allow the buyer to benefit from favorable exchange rate movements.
D.
Options are always traded over-the-counter (OTC) and customized to exact dates.
How to approach this question
Compare the mechanics of forwards (binding) vs options (right but not obligation).
Full Answer
C.Options allow the buyer to benefit from favorable exchange rate movements.✓ Correct
A forward contract fixes the exchange rate, meaning the company is protected from adverse movements but cannot benefit from favorable ones. A currency option gives the right, but not the obligation, to exchange currency at a set rate. If the spot rate is more favorable on the settlement date, the company can let the option lapse and buy at the spot rate.
Common mistakes
Thinking options are free (they require a premium) or that they provide more 'certainty' than a forward (both provide a worst-case certainty, but forwards lock the exact rate).
Practice the full ACCA FM — Financial Management Practice Exam 1
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