Question

Hong Kong Business Aviation Company (HKBAC) is in the business of leasing private business jet planes to wealthy and privileged customers so that they could enjoy the luxurious and personalized flight experience. HKBAC has incurred huge costs in regularly updating its fleet and paying for the rising fuel costs. Three new private business jet planes have been ordered from a Canadian aircraft manufacturer. HKBAC has to pay for that in the Canadian dollar in one year’s time.

Required:

1. (a) To manage the risk associated with foreign exchange exposure, what actions that HKBAC can take to get the Canadian dollar required to make the payment? (10 marks)

2. (b) Suggest and explain what common fuel hedging tools that HKBAC can use to deal with fuel price exposure.

Answer 1

1) HKBAC have to pay the suppliers in Canadian dollar will be required to buy a forward contract for Canadian dollar. A forward contract refers to a customized agreement between a bank and its customer to buy or sell a negotiated amount of foreign currency at a negotiated price on a negotiated day. There will not be any margin requirement, thus the customer is not required to put down a deposit before the expiration date of the contract, and information about the contract will not be disclosed to public. Thus in this case when buys a forward contract would be fully hedged against the risk that the price of Canadian dollar will rise. Furthermore if wants to speculate but at the same time also limit her risks can buy a call that provides the right to buy Canadian dollar at the call’s strike price. Buying a call provides the buyer the right however not the obligation to buy the underlying Canadian dollar for the strike price that the buyer and seller have agreed upon. If the spot price is below the strike price, the buyer is not required to exercise the option. Thus If the price of the Canadian dollar increases would gains as can now buy Canadian dollar for lesser amount of dollars.

2) Two types of hedges that HKBAC can use to deal with fuel price exposure:

-- HKBAC can apply the financial hedging as process of contract that aims at reducing the pre-existing risks at HKBAC by maintaining a better fuel cost position and reducing their fleet diversification through hedging.

--HKBAC increase their market flexibility and volatility so that the impacts of any movement in the prices of oil can be utilized as an opportunity for gaining profits while decreasing an exposure to risk. HKBAC in future contracts hedge the products of fuel based on the OTC trading markets