Question
a) You are a U.S.-based treasurer with $1,000,000 to invest. The dollar-euro exchange rate is quoted as $1.60 = 1.00 and the dollar-pound exchange rate
a) You are a U.S.-based treasurer with $1,000,000 to invest. The dollar-euro exchange rate is quoted as $1.60 = 1.00 and the dollar-pound exchange rate is quoted at $2.00 = 1.00. If a bank quotes you a cross rate of 1.00 = 1.20 how much money can an astute trader make?
b) A U.S.-based currency dealer has good credit and can borrow $1,000,000 for one year. The one-year interest rate in the U.S. is i$= 2% and in in the euro zone the one-year interest rate is i = 6%. 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 dollar profit via covered interest arbitrage
c) Suppose that you are the treasurer of IBM with an extra $1000,0000 to invest for six months. You are considering the purchase of U.S. T-bills that yield 1.810% (that's a six-month rate, not an annual rate by the way) and have a maturity of 26 weeks. The spot exchange rate is $1.00 = x100, and the six-month forward rate is $1.00= x 110. What must the interest rate in Japan (on an investment of comparable risk) be before you are willing to consider investing there for six months?
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