WHAT IS A CURRENCY OPTION?


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Anyone planning a business venture in another country would like to know the currency is going to be worth when the time comes to change money. Unwelcome currency fluctuations could make a shipments of wine from Chile or a BMW import from Germany prohibitively expensive when it arrives.

 Currency options allow individual investors, business, or merchants to lock in the future value of a foreign currency. By buying or selling a currency option, it is possible to fix exactly how many Swiss francs or Japanese Yen a U.S dollar can buy at any given time in the future. Just like other options, a currency options gives the holder the right, but not obligation, to buy or sell something at fixed price-in this case, a currency. The most common currency options are based on the U.S dollar price of Swiss francs, euros, British pounds, and Japanese Yen.

Like all investment in the international marketplace, currency options can be used for speculation. Investors who believe that a currency will go up in value can buy an option to buy that currency and earn big money if they turn out to be right. When the Swiss franc rises, anyone holding a Swiss franc for less-will profit.

Likewise, if a currency goes down against the dollar, an option to sell the currency- a put option would become more valuable. A Texas computer manufacturer anticipating big sales in Switzerland, for example, could buy a Swiss franc put option to “lock in” the U.S dollar value of the sale. This “hedge” would ensure against any unanticipated losses if the value of the Swiss Franc were to drop before the computers are sold in Geneva and Zurich.

 Exporters and anyone who trades in the world economy, in fact, often need to know in advance what their bottom line will be, in their own currency. Therefore, most companies, even small ones, use currency options to prevent earnings from being affected by unanticipated currency fluctuations. With global trade now contributing substantially to many companies profits, the use of currency options allows for trade to grow, unencumbered by the use of many different currencies used around the world.

 


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