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Answer: ABC would be better off by entering into a forward contract if EUR appreciates against USD by less than USD 0.03 per EUR 1.
## Explanation This question involves comparing forward contracts versus options for hedging foreign exchange risk. Let's analyze each option: **Option A**: Incorrect - Selling an option contract would expose ABC to unlimited downside risk if the exchange rate moves against them, which is not a prudent hedging strategy. **Option B**: Incorrect - If EUR appreciates significantly (more than USD 0.03 per EUR 1), ABC would benefit from the upside potential of a call option, not a forward contract which locks in a fixed rate. **Option C**: **Correct** - When EUR appreciates by less than USD 0.03 per EUR 1, the forward contract provides better protection because it eliminates exchange rate risk entirely at a predetermined rate, while an option would require paying a premium that might not be recovered if the appreciation is small. **Option D**: Incorrect - If EUR depreciates significantly, ABC would be better off with a put option to protect against downside risk, not a forward contract that locks in an unfavorable rate. **Key Insight**: Forward contracts are generally preferred when the expected exchange rate movement is small or uncertain, as they provide certainty without premium costs. Options are better when there's potential for significant favorable movements where the upside potential can offset the premium cost.
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Which of the following statements is most likely correct?
A
ABC would be better off by selling an option contract regardless of how large the change in the FX rate is and in which direction EUR moves relative to USD.
B
ABC would be better off by entering into a forward contract if EUR appreciates against USD by an amount significantly larger than USD 0.03 per EUR 1 and the call option premium is more than 0.03.
C
ABC would be better off by entering into a forward contract if EUR appreciates against USD by less than USD 0.03 per EUR 1.
D
ABC would be better off by entering into a forward contract if EUR depreciates against USD by an amount significantly larger than USD 0.03 per EUR 1 and the call option premium is less than 0.06.