Finance Homework: Derivatives, Hedging, and Ethical Considerations

This finance homework assignment addresses key concepts in international finance, including derivatives, hedging strategies, and ethical considerations. The assignment comprises true/false questions, multiple-choice questions, and open-ended questions. The solutions provided cover topics such as the impact of exercise prices on call options, the time value of options, and the use of derivatives for risk management. Furthermore, the assignment delves into ethical issues in international business, referencing the Foreign Corrupt Practices Act and addressing labor and ethical problems in the footwear and clothing industries. The solution also includes excel calculations and analysis for hedging costs, comparing options and money market hedging strategies. The assignment emphasizes the practical application of financial principles and provides a comprehensive overview of the topics covered.

FINANCE
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Question 1
1) The given statement is true. This is because a low exercise call option would have a
high premium and hence loss would be higher. But the advantage would be in the
form of higher potential upside if the asset price does increase.
2) The given statement is false. This is because the value loss on account of time would
be greater when the holding period id greater.
3) The given statement is true. This is because using derivative based options is just one
of the choice available and other options such as borrowing or investing abroad can
also provide a natural hedge.
Question 2
1) Correct option is B as the truck driver would not be impacted by the underlying price
and hence is a spectator. This is not true for farmer or the food manufacturer as these
are interested parties.
2) Correct option is A as mortgage lacks any financial engineering unlike other options.
3) Correct option is C as the underlying action can be equated with the transaction cost
decline.
Question 3
1) In 1977, an important federal act was enacted in US named as Foreign Corrupt
Practices Act. It aimed at ensuring that US businesses do not indulge in bribing in
their foreign operations and also have greater accounting related transparency. This
act has led to reduction in bribing incidences related to international businesses
coupled with more ethical business practices by US business along with higher
corporate governance standards in international business operations (Arnold, 2015).
2) The footwear and clothing industry related labour and ethical problems are mentioned
as follows.
 The issue of low wages which exists due to lack of requisite legislative protection
coupled with weak enforcement.
 High incidence of child labour in order to lower costs and maximise profits.
 Compromised safety and health standards for workers which can lead to loss of
life, injury and various accidents.

 Also exploitation of labour is a big concern owing to widespread unemployment
and loopholes in labour law.
3) The full form of LIBOR is London Inter-Bank Offer Rate. It is the interest rate at
which inter-bank short term lending is done. However, risk adjusted LIBOR is used
for lending to various clients by banks worldwide as LIBOR serves as a suitable
reference rate based on which risk based premiums are demanded (Petty et. al, 2015).
Question 4
1) The suitable excel calculations are pasted as shown below.
2) The suitable excel calculations are pasted as shown below.
3) The above subparts indicate that the maximum cost of hedging through the use of options
is $ 4,125,000. This is clearly lower than the corresponding money market hedging related
cost of $ 4,545,455. Further, considering that the hedging cost through money market does
not depend on the future spot rate, hence no particular future spot rate can be ascertained
whereby there is indifference between the two hedging methods available (Arnold, 2015).

References
Arnold, G. (2015) Corporate Financial Management. 3rd ed. Sydney: Financial Times
Management.
Petty, J.W., Titman, S., Keown, A., Martin, J.D., Martin, P., Burrow, M., & Nguyen, H. (2015).
Financial Management, Principles and Applications, 6th ed.. NSW: Pearson Education, French
Forest Australia.