the Euro will depreciate by 1% (interest rate differential) and the forecasted depreciation of Euro is (1.19/1.2)-1 = 0.83%, in this case, the interest rate differential is larger than predicted, so we should hedge, correct? But the answer states the opposite.
You expect Eur to decrepicate by 0.83% Market expect (hedged position) EUR to depreciate by 1%. If you believe you are better at predicting the currency movement than the market, you NO hedge.
so, in other words, if your expected appreciation is greater than market expect, you also unhedge? If you expected depreciation is greater than market , you hedge?
Yes.