In early 2001, the spot exchange rate between the GBP and the Brazilian Real was 1.325700 GBP/Real.
Question:
In early 2001, the spot exchange rate between the GBP and the Brazilian Real was 1.325700 GBP/Real. The 6-month interest rate in UK is 4.7800% and the Real rate is 2.8200%. Based on the table below, what should the 6-month GBP/Real forward rate be to prevent arbitrage opportunities? Show all calculation to 5 decimal places.
1. What should the 6-month GBP/Real forward rate be to prevent arbitrage opportunities.
2. Suppose the the 6-month GBP/Real forward rate is 1.36840 What arbitrage opportunities are there? Construct an arbitrage/payoff table to outline your strategy. What is the aggregate arbitrage profit that can be made (if any)?
Pricing Inputs: DC/FC
Spot Price (GBP/Euro): 1.325700
Time to expiration (in years): .5
Domestic Currency (GBP) Interest rate: 4.780%
Foreign Currency (Real) Interest Rate: 2.820%
Forward Rate (GBP/Real): ?
No other data given.