1. sell pounds forward in return for dollars.
2. sell dollars forward in return for pounds.
3. buy pounds forward in return for dollars.
4. do either 2. or 3.
Choose the correct option.
The correct option is 1. A forward sale of the pound commits the trader to sell pounds for $2.00 each in 30 days. When that time comes, she expects to be able to purchase those pounds for $1.90 each, for a net gain of 10 cents per unit.
The trick in getting the right answer to questions like this one is to figure out which currency is expected to depreciate in the future relative to its forward value. That is the currency that should be sold forward. Selling it forward is the same thing as buying the other currency forward. Our trader can be thought of as purchasing dollars forward for .50 pounds each in the expectation that she can sell these dollars spot on the agreed-upon day of purchase for .526 pounds.