# 2008 essays - question 7C

i’m sure this has been posted already and i apologize to ask again but i have a question on 7C of the 2008 essays. question is determine who holds the credit risk for the following, Red River (RR), the position holder, or the counterparty: • short a two-year forward currency contract on Japanese yen (JPY) denominated in ZAR at 15.00 JPY/ZAR forward rate; • this forward contract expires today; • exchange rate was 14.50 JPY/ZAR when RR entered the contract; • the spot (current) rate is now 17.50 JPY/ZAR; • compound annual interest rates for the two-year period: 1 percent in JPY and 10 percent in ZAR. answer is: Based on the comparison between the forward rate 15.00 JPY/ZAR and the spot rate 17.50 JPY/ZAR, the short-yen counterparty (RR) receives the payment, so RR bears the credit risk. HERE’S MY ISSUE RR is short the contract - meaning it has agreed to sell ZAR for 15 JPY. if the spot is now 17.5 JPY/ZAR, ZAR has strengthened and RR should have to make a payment, right? if RR has to make the payment then the counterparty should bear the credit risk… sorry to ask this late in the game and good luck to everyone

Think you may be thinking backwards. RR is short the Yen. at the time 15 JPY buy 1 Zar. Now 17.5 JPY buy 1 Zar. The Yen has depreciated in value because it now takes more to buy 1 Zar. Since Yen depreciated, the company who is short the Yen (RR) is going to be in the money. They bear the risk.

RR sold yen forward (not ZAR) and yen has weakened so RR is due the payoff and has credit risk i think…

yeah i guess i was thinking the other away - i thought he was short ZAR and not JPY. goddamn wording either way agreed that yen depreciates so whomever is short the yen is owed cash and thus bears credit risk

I think is the one where they get cute and give you the indirect quote instead of the direct quote… that’s what threw me off. It’s either this one or the one on the 2009 exam not sure which