Question
An American Hedge Fund is considering a one-year investment in an Italian government bond with a one-year maturity and a euro-denominated rate of return of
An American Hedge Fund is considering a one-year investment in an Italian government bond with a one-year maturity and a euro-denominated rate of return ofi= 5%. The bond costs 1,000 today and will return 1,050 at the end of one year without risk. The current exchange rate is 1.00 = $1.50. U.S. dollar-denominated government bonds currently have a yield to maturity of 4 percent. Suppose that the European Central Bank is considering either tightening or loosening its monetary policy. It is widely believed that in one year there are only two possibilities:
S1($/) = 1.80 per
S1($/) = 1.40 per
Following revaluation, the exchange rate is expected to remain steady for at least another year.
Your banker quotes the euro-zone risk-free rate ati= 5% and the U.S. risk free rate ati$= 4%. What is the value of the option?
Select one:
a.$76.54
b.$80.55
c.$16.54
d.$66.55
e.$86.54
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