Suppose that instead of funding the $100 million investment in 12 percent British loans with U.S. CDs, the FI manager in problem 15 funds the British loans with $100 million equivalent one-year pound CDs at a rate of 8 percent.

Now the balance sheet of the FI would be as follows:

Assets Liabilities

$100 million $100 million U.S. loans (6%) U.S. CDs (5%)

$100 million $100 million U.K. loans (12%)

(loans made in pounds)

U.K. CDs (8%)

(deposits raised in pounds)

a. Calculate the return on the FI’s investment portfolio, the average cost of funds, and the net interest margin for the FI if the spot foreign exchange rate falls to $1.45/£1 over the year.

b. Calculate the return on the FI’s investment portfolio, the average cost of funds, and the net interest margin for the FI if the spot foreign exchange rate rises to $1.70/£1 over the year.