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Garg Brothers & Co. Case: Managing Foreign Exchange Risk Using Derivatives

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Kanishq Baweja

Garg Brothers & Co. is an Indian handicraft exporter planning to expand into other Asian markets. They expect to receive $5 million in payments over the next 90 days but are exposed to foreign exchange risk if the Indian rupee depreciates against the US dollar. Hedging using derivatives like futures and options contracts can help reduce this risk. Various hedging strategies like buying futures contracts or puts are analyzed and show they can guarantee profits and reduce exchange rate volatility compared to an unhedged position.

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Garg Brothers & Co. Case: Managing Foreign Exchange Risk Using Derivatives

Uploaded by

Kanishq Baweja
174 views12 pages
Garg Brothers & Co. is an Indian handicraft exporter planning to expand into other Asian markets. They expect to receive $5 million in payments over the next 90 days but are exposed to foreign exchange risk if the Indian rupee depreciates against the US dollar. Hedging using derivatives like futures and options contracts can help reduce this risk. Various hedging strategies like buying futures contracts or puts are analyzed and show they can guarantee profits and reduce exchange rate volatility compared to an unhedged position.

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Garg Brothers & Co. is an Indian handicraft exporter planning to expand into other Asian markets. They expect to receive $5 million in payments over the next 90 days but are exposed to foreign exchange risk if the Indian rupee depreciates against the US dollar. Hedging using derivatives like futures and options contracts can help reduce this risk. Various hedging strategies like buying futures contracts or puts are analyzed and show they can guarantee profits and reduce exchange rate volatility compared to an unhedged position.

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Download as PPTX, PDF, TXT or read online from Scribd
Download as pptx, pdf, or txt
174 views12 pages

Garg Brothers & Co. Case: Managing Foreign Exchange Risk Using Derivatives

Uploaded by

Kanishq Baweja
Garg Brothers & Co. is an Indian handicraft exporter planning to expand into other Asian markets. They expect to receive $5 million in payments over the next 90 days but are exposed to foreign exchange risk if the Indian rupee depreciates against the US dollar. Hedging using derivatives like futures and options contracts can help reduce this risk. Various hedging strategies like buying futures contracts or puts are analyzed and show they can guarantee profits and reduce exchange rate volatility compared to an unhedged position.

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MANAGING FOREIGN

EXCHANGE RISK USING


DERIVATIVES

Garg Brothers & Co. Case

ABOUT THE COMPANY

Garg Brothers & Co., a 25 year old


company
Handicrafts exporter
Annual Profits - Rs. 25cr
Gross Margin 40%
Net Margin 25%
Payment to suppliers on delivery ;
Client pays on 90th day

Expansion plans to export other asian


handicrafts like chinese and middle
eastern ones
For the same 12 cr to be spent on
advertising in europe ( 5cr surplus, 5cr
expected payments, 2cr loans)

SITUATION

Payments amounting to 5cr expected


Rs/$ falls to 62.75 from 65.5 at time of
delivery
ie a loss of almost 20 lacs
Rs/$ expected to be 59.5 on 90 th day from
delivery
Ankit to fall short in the advertising
budget

HEDGING

A hedge is an investment to reduce the


risk of adverse price movements in an
asset. Normally, a hedge consists of
taking an offsetting position in a related
security, such as afutures contract.
There is arisk-reward tradeoffinherent
in hedging; while it reduces potential
risk, it also chips away at potential gains.

DERIVATIVES DATA

Spot Rate Rs 62.75/$


90 day Fwd Rate Rs 60.50/$
90 day Call at Rs 60.50/$, premium
Rs 0.05
90 day Put at Rs. 60.50/$, Premium
Rs 0.10

Q1

Ankit should definitely go in to hedge his


positions to account for the depreciating
US$
While this will cost him and reduce his
margins, it also reduces the element of
risk, guaranteeing his margins.

CASE 1: NO HEDGE

Booking Rate RS/$

65.5

Amount US$

763358.8

Expected Amount INR

50000000

Profit/ Loss (at 25%


margin)

1250000
0

Profit/Loss at Rs 59.5/$

7919847

Profit/Loss at Rs 60/$

8301527

CASE 2: FUTURES HEDGE

Unhedged

Futures

Exchange Rate RS/$

65.5

60.5

Amount US$

763,358.78

763,358.8

Expected Amount INR

5,00,00,000 4,61,83,206

Profit/ Loss (at 25% margin)

1,25,00,000 86,83,206

Profit/Loss at Rs 59.5/$

79,19,847.3 86,83,206

Profit/Loss at Rs 60/$

83,01,526.7 86,83,206

CASE 3: PUT HEDGE


Unhedged

Put

Exchange Rate RS/$

65.5

60.5

Amount US$

763358.78

763358.8

Premium

76335.88

Expected Amount INR

50000000

46106870

Profit/ Loss (at 25% margin)

1,25,00,000 86,06,870

Profit/Loss at Rs 59.5/$

7919847.3 86,06,870

Profit/Loss at Rs 60/$

83,01,526.7 86,06,870

CASE 4: OPTIONS STRATEGY


1

Unhedged

Options

Exchange Rate RS/$

65.5

60.5

Amount US$

763358.78

763358.8

Premium

114503.8

Expected Amount INR

50000000

46068702

Profit/ Loss (at 25% margin)

12500000

8568702

Profit/Loss at Rs 59.5/$

7919847.3

8568702

Profit/Loss at Rs 60/$

8301526.7

8568702

CASE 5: OPTIONS STRATEGY


2
Unhedged

Options
Strategy

Exchage Rate RS/$

65.5

60.5

Amount US$

763,358.78

763,358.8

Premium

16,14,504

Expected Amount INR

5,00,00,000 4,45,68,702

Profit/ Loss (at 25% margin)

Profit/Loss at Rs 59.5/$

Profit/Loss at Rs 60/$

1,25,00,000 70,68,702
1,70,68,70
79,19,847.3
2
1,20,68,70
8301526.7
2

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