Question
4. This problem is worth 2 of the 10 points in this assignment. Again, working with interest rate parity, Lets assume that the spot exchange
4. This problem is worth 2 of the 10 points in this assignment. Again, working with interest rate parity, Lets assume that the spot exchange rate between Mexican pesos (P) and the U.S. dollar is 18.8679 P/$ and the 1-year forward rate is 19.1679 P/$. Also assume that the U.S. interest rates are 2% p.a. and the Mexican interest rates are 1.95% p.a. What actions can an arbitrageur take to profit per $1000 invested from this scenario? Specifically note the actions the arbitrageur would take (1 point) and then report the arbitrage profit available per $1000 because interest rate parity is not holding (1 point). Note that an arbitrageur would invest as much money as available (millions) given this scenario so huge arbitrage profits could be made.
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