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I am trying to do some self studying and came across this question. I am not sure how I would analyze these hedging strategies to figure out which is better. Could you give me any help on how I could tackle this question?

Company A is in the UK and was commissioned to organize a event in Madrid in 12 months’ time for €450,000. The contract between the two companies stipulated that €100,000 will be paid up front with remaining amount to be paid after the conference. Company A ’s credit line is for €360,000 and the company obtains the following rates:

  • Current spot exchange rate = EUR 1.1324 /GBP (1.1324 Euro per British pound)
  • Expected spot rate in one year = EUR 1.1812 / GBP (1.1812 Euro per British pound)
  • Current one year forward rate = EUR 1.1527 / GBP (1.1527 Euro per British pound)
  • One year British pound deposit rate = 0.50%
  • One year Euro borrowing rate = 2.30%

Which hedging technique is preferable with regard to this contract: using the forward market or the money market to hedge the foreign exchange risk?

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    $\begingroup$ What have you tried? $\endgroup$
    – will
    Sep 26 at 19:41

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