Question
1. (Locational Arbitrage) 5 pts. Assume the following information: Bank A Bank B Bid price of Mexican peso $.054 $.051 Ask price of Mexican peso
1. (Locational Arbitrage) 5 pts. Assume the following information: Bank A Bank B Bid price of Mexican peso $.054 $.051 Ask price of Mexican peso $.056 $.053 Given this information, is locational arbitrage possible? If yes, compute the profit from this arbitrage if you had $1,000,000 to use. What market forces would occur (i.e. what changes) to eliminate any further possibilities of locational arbitrage?
2. (Covered Interest Arbitrage 5 pts) You have the following information: Spot rate of the Australian dollar: 0.67 USD/ 1 AUD Forward rate of the Australian dollar: 0.76 USD/ 1 AUD Six-month interest rate for the AUD: 5.7% per annum Six-month interest rate for the USD: 4.5% per annum. Assume that you can borrow as much as 1,000,000 AUD or 670,000 USD. a. Determine whether the interest rate parity (IRP) is currently holding. b. If the IRP is not holding, how would you carry out covered interest arbitrage? Show all the steps and determine the arbitrage profit. c. Explain how the IRP will be restored as a result of covered arbitrage activities (i.e. what is the new forward rate to eliminate the arbitrage opportunity?)
3. (Triangular Arbitrage 5 pts) You observe the following quotes: 1 GBP = 1.29 USD (1); 1 MXN = 0.053 USD (2); and 1 GBP = 30 MXN (3) Is there triangular arbitrage opportunity? How much would the arbitrage profit be if you have $1 million USD to start with?
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