Suppose that instead of funding the $100 million investment in 12 percent British loans with CDs issued in the United Kingdom, the FI manager in problem 16 hedges the foreign exchange risk on the British loans by immediately selling its expected one-year pound loan proceeds in the forward FX market.

The current forward one-year exchange rate between dollars and pounds is

$1.50/£1, or at a 5 cent discount to the spot pound.

a. Calculate the return on the FI’s investment portfolio (including the hedge)

and the net interest margin for the FI over the year.

b. Will the net return be affected by changes in the dollar for pound spot foreign exchange rate at the end of the year?