JP Doke, Inc. has recently exported over 1,000 digital processors and components from the United States to Deutsche Telekom, based in the Germany.  Deutsche Telekom is Europe's largest telecommunications         company and the third largest worldwide. Deutsche Telekom requires these components in order to successfully integrate its newest acquisition, Telecom Italia.  On April 28, the date of the contract, the price of this order was set at 50 million DM.  Payment will be transferred to JP Doke Inc.'s bank account on the set date of June 16, 1999.

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      JP Doke, Inc. is a relatively new company and is also wary of the Deutsche Telekom's financial situation.  Management is extremely risk averse with regards to currency risk.  As such, management has taken a very conservative approach and decreed that only 2% of the sales transaction may be lost due to currency fluctuations. This translates into roughly $544,800. (Using a quick and dirty method, 2% of 50 million DM = 1 million DM.  1 million DM * .5448 = $544,800.)   Management can only accept a 10% (or 1.28 standard deviation) chance of losing more than $544,800.   The Probability of doing worse than 1.28 standard deviations is 10.03%   Our current 50 million DM translates into 400 futures contracts (+400F).  If we were to leave this position completely unhedged we run the risk of losing over 10% of our revenue in the event that Deutsche Mark strengthens dramatically against the U.S. Dollar.   Based on the the Deutsche Mark and Euro volatility information taken from RiskMetrics, our position has a total value at risk of $1,209,919, greater than the risk limit desired by management.  In order to limit our value at risk, we need to hedge our exposure, either by selling off futures or using options.     (Click Here to Go Back to the Project Homepage)