Question

Explain and provide examples of using foreign exchange currency options to hedge

Answer 1

Foreign exchange currency options are often used in the international transaction where there is exposures related to fluctuations in rates of different foreign currencies.

Currencies options are derivatives that allows an individual to enter the underlying market at a specific price and it can be said that it allows the holder to sell or buy a particular currency at a particular date at a predetermined rate .It expire after a certain period as other derivatives instrument.

For example, If an indian importer wants to buy some items from an american manufacturer at a particular future date.The transaction is to carried out in American Dollars . The indian importer will create a hedge by purchasing currency options in american dollars so it will be protected against any appreciation in american dollars so the overall currency exposure of the indian importer is hedged against any adverse movement in american dollars.