A portfolio manager at a European based bank is trying to decide how to invest: 10,000 EUR, and he must choose between 1-year euro deposits and 1-year yen investments. In the latter case, he knows that he must worry about transaction foreign exchange risk, but he also understands that he can use the appropriate forward contract to eliminate it.

Suppose the manager has the following data:

EUR interest rate: 3.5200% per annum

JPY interest rate: 0.5938% per annum

Spot exchange rate: EUR/JPY = 146.03 (1 EUR = 146.03 JPY)

1-year forward exchange rate: EUR/ JPY = 141.2

Answer the following:

1. Which of these investments should this portfolio manager choose to get the highest euro return? Calculate the net risk-free gain in this case.

2. Suppose that the 9 Months forward exchange rate is at equilibrium, what should be the spot exchange rate?

3. Find the future price in 9 Months and the spot price at equilibrium.

4. Write a formula for future price at 9 Months.