Hedging exchange rate risk at Afterpay
Version 1
Suppose today is August 27, 2020. You are a risk analyst working at the finance department at Afterpay, an Australian e-commerce platform that allows consumers to “buy now, pay later”. Due to the growing importance of the US and UK segments, the company’s Chief Financial Officer is wo
ied about the impact of exchange rate risk exposure on its revenue over the next 6 months (from September). As a result, you are asked to prepare a report outlining how exchange rate risk might affect the firm’s profits. In addition, you are asked to assess different hedging strategies involving forward, futures and options. Further information and requirements for the report are as follows:
1. You are only required to focus on the exchange rate risk exposure of the US segment (i.e., focus on the AUD/USD exchange rate)
2. Using historical data on the movement of the AUD/USD exchange rate, provide a forecast for the exchange rate movement in the next 6 months. Conduct a sensitivity analysis of the firm’s net profit with respect to a 10% movement (both up and down) in the exchange rate.
3. Assess the value of hedging exchange rate risk by conducting a scenario analysis with 3 different hedging strategies: (1) do nothing, (2) forward hedge and (3) option hedge. See Table 2 for further information on this task.
4. State any assumption when appropriate.
5. Outline the limitations of your analysis and discuss any further considerations.
6. Based on your analysis above, provide recommendation on an appropriate hedging strategy for the next 6 months.
7. Mark allocation (total = 100):
a. Exchange rate forecast: 25 marks
. Sensitivity analysis on profits: 25 marks
c. Scenario analysis of hedging strategies: 40 marks
d. Recommendation: 10 marks
Submission
Please submit:
1. A Microsoft Word document for the report (2000 words)
2. An Excel spread sheet with all analyses conducted for the report. Please make sure the Excel file is presentable.
Plagiarism
While you are encouraged to discuss with other classmates when preparing the report, you must conduct the analyses and write the report yourself. By submitting the documents mentioned above, you confirm that it is your own authentic work. Any suspected plagiarism will be reported to the Academic Integrity Committee. If you are found to copy someone else’s work or collude with someone else, you might get a zero for your assignment.
Further information[footnoteRef:1] [1: For more information not included in this document, see the LMS. ]
Table 1: Afterpay’s key financial metrics
Source: Afterpay’s half year financial result, Fe
uary 27, 2020
Table 2: Scenario analysis
Forecast A$ net profit (unhedged)
Forecast A$ net profit (hedged)
Exchange Rate (A$/$)
Exchange Rate (A$/$)
Hedging strategy[footnoteRef:2] [2: X is the 6-month forecast exchange rate computed in point 2]
x-10%
x
x-10%
x-10%
x
x-10%
Unhedged
100% Forward
100% Option
75% Forward, 25% Option
50% Forward, 50% Option
25% Forward, 75% Option
MARKING RUBRIC
CRITERIA
A
Excellent (> 80 %)
B
Very good (70 – 79%)
C
Good (60 – 69%)
D
Fair (50 – 59%)
P
Poor (<50%)
CONTENT
Demonstrate a deep understanding of foreign exchange risk and using forward contracts to hedge foreign exchange risk exposure
Demonstrate the ability to think critically regarding a company’s hedging strategy.
Demonstrate the ability to make an informed decision based on your analysis.
Demonstrate the ability to conduct data analysis and use data to support your argument
Show thorough research on the topic (e.g., beyond the textbook, from articles/ financial reports)
Demonstrate a deep understanding of foreign exchange risk and using forward contracts to hedge foreign exchange risk exposure
Demonstrate the ability to think critically regarding a company’s hedging strategy.
Demonstrate the ability to make a well-thought-out decision.
Demonstrate the ability to conduct data analysis
Show thorough research on the topic (e.g., beyond the textbook, from articles/ financial reports)
Demonstrate a good understanding of foreign exchange risk and using forward contracts to hedge foreign exchange risk exposure
Demonstrate an understanding of general considerations regarding a company’s hedging strategy.
Demonstrate the ability to conduct data analysis
Demonstrate reasonable effort to research on the topic
Demonstrate a good understanding of foreign exchange risk and using forward contracts to hedge foreign exchange risk exposure
Demonstrate reasonable effort to research on the topic
Have not shown adequate understanding of the topic
Have not demonstrated basic level of reading
PRESENTATION[footnoteRef:3] [3: The marking ru
ic for presentation indicates the standards required for your report. A maximum of 10 marks (out of 100) might be deducted for poor formatting (e.g., in column P).]
Format the assignment in a presentable way. Properly label sections, headings, tables and graphs.
Minimum number of grammatical or spelling e
ors.
Coherent, elegant and concise expression.
Format the assignment in a presentable way. Properly label sections, headings, tables and graphs.
Minimum number of grammatical or spelling e
ors.
Format the assignment in a presentable way. Properly label sections, headings, tables and graphs.
Minimum number of grammatical or spelling e
ors.
Format the assignment in a presentable way.
There is a significant amount of grammatical or spelling e
ors.
Fail to demonstrate an effort to make the report presentable
REFERENCES[footnoteRef:4] [4: A maximum of 10 marks might be deducted for inadequate referencing. ]
Provide appropriate referencing
Use APA, Harvard or Chicago reference style
Provide appropriate referencing
Use APA, Harvard or Chicago reference style
Provide appropriate referencing
Use APA, Harvard or Chicago reference style
Miss a significant amount of references (e.g., fail to provide a reference list)
Fail to provide any references
FIN5IFM assignment further information
FIN5IFM assignment
further information
Options and futures data
FX forwards are OTC contracts
hard to find data
You can substitute the forward rate with futures rate of the same maturity
They should be identical or very close
You can observe the AUD/USD and the GBP/USD exchange rates directly
However, if you are working on the UK segment for the assignment, you will need to compute the AUD/GBP cross exchange rate
2
Referencing data sources
You can use the rates shown in the next few slides for your assignment (i.e., no need to redownload the data)
However, please cite the sources in your report
I collected option data from investing.com
Futures data are from CME
I provide the links to these sites in the next slides
You are welcome to find your own data sources (e.g., Factset, Yahoo Finance etc etc), but you need to cite them too
3
Options
For simplicity purposes, please use this strike price
4
For the UK segment, compute the cross rate GBP/AUD
Use the strike price from before and this strike price
Source: https:
au.investing.com/cu
encies/forex-options
5
Futures
This is for AUD/USD
Use the last trading price for the Mar 2021 futures
Source:
https:
www.cmegroup.com/trading/fx/g10/australian-dollar_quotes_globex.html
6
Futures
This is for GBP/USD
Use the last trading price for the Mar 2021 futures
Source:
https:
www.cmegroup.com/trading/fx/g10
itish-pound_quotes_globex.html
7
Forecast A$ net profit (unhedged)
Forecast A$ net profit (hedged)
Exchange Rate (A$/$)
Exchange Rate (A$/$)
Hedging strategy[footnoteRef:1] [1: X is the 6-month forecast exchange rate computed in point 2]
x-10%
x
X+10%
x-10%
x
X+10%
Unhedged
100% Forward
100% Option
75% Forward, 25% Option
50% Forward, 50% Option
25% Forward, 75% Option
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