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2. Consider the following exchange rate quotes: Swiss franc per U.S. dollar = 1.5971, Australian dollar per U.S. dollar = 1.8215, and Australian dollar per
2. Consider the following exchange rate quotes: Swiss franc per U.S. dollar = 1.5971, Australian dollar per U.S. dollar = 1.8215, and Australian dollar per Swiss franc = 1.1440. Abstracting from transaction costs, is there an arbitrage opportunity based on these quotes? If there is an arbitrage opportunity, what steps would you take to make a profit, and how much would you profit if you have $2,000,000 available for this purpose? 3. Suppose the annual US interest rate is 2% and the annual Mexican interest rate is 6%. Suppose that the current spot exchange rate is 15 Mexican pesos per US dollar. According to the exact covered interest parity condition (CIP), what should the 1 year forward Peso per US dollar exchange rate be? 4. Your U.S. company needs 10,000 Mexican pesos to pay for imported parts one year from today. In order to remove the exchange rate risk from the payment, you consider two strategies. (a) Invest X in a U.S. bank account that earns 5% interest per year. Buy a one year forward contract to purchase pesos at 0.2 dollars per pesos. What is the dollar-cost (X) of the imported parts under this strategy? (b) Sell Y dollars for pesos today and put the pesos in a Mexican bank account that earns 20% interest per year. If covered interest parity (CIP) holds, is there an advantage to this strategy compared to a)? (c) Using the information in (a) and (b), what is the spot exchange rate (in dollars per peso) if CIP holds? 5. The current spot exchange rate is 1.85 U.S. dollar per Pound (Es/ = 1.85) and the three-month forward rate is Fs/ = 1.90. Based on your analysis of the exchange rate, you are pretty confident that the spot exchange rate will be Es = 1.93. in three months. Assume that you have 1,000,000 available to buy or sell currency. (a) What actions can you take to speculate (i.e. "take a bet) in the forward market? What is the expected dollar profit from such speculation? (b) What would be your speculative profit in dollar terms if the spot exchange rate actually turns out to be Es = 1.86
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