6) A currency dealer has good credit and can borrow either $1,000,000 or 800,000 for one year. The one-year interest rate in the U.S. is i$ 2% and in the euro zone the one-year interest rate is iC6% The spot exchange rate is $1.25 1.00 and the one-year forward exchange rate is $1.20 = 1.00. Show how to realize a certain profit via covered interest arbitrage. A) Borrow $1,000,000 at 2%. Trade $1,000,000 for 800,000; invest at i +6%; translate proceeds back at forward rate of $1.20 = 1.00, gross proceeds = $1,017,600. B) Borrow 800,000 at 1 5%; translate to dollars at the spot, invest in the U.S. at i$ -2% for one year; translate C848,000 back into euro at the forward rate of $1.20 = 1.00. Net profit $2,400 000 at iC = 6%; translate to dollars at the spot, invest in the U.S. at i$ - 296 for one year 850,000 back into euro at the forward rate of $1.20 = 1.00. Net profit 2,000, D) Borrow 800,000 atic 6%; translate to dollars at the spot, invest in the U.S. at i$ - 2% for one year, translate 0848,000 back into euro at the forward rate of $1.20 = 1.00. Net profit is $2,400. Additionally, one may borrow 6800,000 at iC6%; translate to dollars at the spot, invest in the U.S. at i$ - 2% for one year; translate C850,000 back into euro at the forward rate of $1.20 61.00. Net profit is 2,000. 6) A currency dealer has good credit and can borrow either $1,000,000 or 800,000 for one year. The one-year interest rate in the U.S. is i$ 2% and in the euro zone the one-year interest rate is iC6% The spot exchange rate is $1.25 1.00 and the one-year forward exchange rate is $1.20 = 1.00. Show how to realize a certain profit via covered interest arbitrage. A) Borrow $1,000,000 at 2%. Trade $1,000,000 for 800,000; invest at i +6%; translate proceeds back at forward rate of $1.20 = 1.00, gross proceeds = $1,017,600. B) Borrow 800,000 at 1 5%; translate to dollars at the spot, invest in the U.S. at i$ -2% for one year; translate C848,000 back into euro at the forward rate of $1.20 = 1.00. Net profit $2,400 000 at iC = 6%; translate to dollars at the spot, invest in the U.S. at i$ - 296 for one year 850,000 back into euro at the forward rate of $1.20 = 1.00. Net profit 2,000, D) Borrow 800,000 atic 6%; translate to dollars at the spot, invest in the U.S. at i$ - 2% for one year, translate 0848,000 back into euro at the forward rate of $1.20 = 1.00. Net profit is $2,400. Additionally, one may borrow 6800,000 at iC6%; translate to dollars at the spot, invest in the U.S. at i$ - 2% for one year; translate C850,000 back into euro at the forward rate of $1.20 61.00. Net profit is 2,000
