Project for the exam Risk Management in collaboration with Giulio Ruffinello and Matteo Racca
This project aims to solve the currency risk management problem for an American company organizing trips to the Euro area for students. The company needs to cover the costs of services included in the trips, expressed in euros, and is therefore exposed to exchange rate risk. Specifically, at the time of departure at ( t = T ), the company will need to pay 1000 euros for each student participant. Since the number of students is uncertain, the total amount in euros is also uncertain, as is the euro-dollar exchange rate at time ( T ).
At time ( t = 0 ), the spot exchange rate between the euro and the dollar, ( p_0 ), is known. To mitigate the exchange rate risk, the company can use the following derivative instruments: forward contracts and European call options with three different strike prices ( K_1 ), ( K_2 ), and ( K_3 ), all with expiration at time ( T ).
The objective of the project is to determine the combination of derivative instruments that minimizes the exchange rate risk for the company.