Assume that you are a currency trader with $10m at your disposal and you have received the following exchange rate quotations:

Bank A is quoting 107-110/$

Bank B is quoting CHF1.50-57/$

Bank C is quoting 75-79/CHF

Required:

(i) Give a definition of arbitrage. (5 marks)

(ii) Without doing any calculations, explain why you can profit from the three quotations above. (5 marks)

(iii) Calculate the $ profit that can be produced with $10 million through triangular arbitrage. You need to show all your workings. Ignore the time value of money. (10 marks)

(iv) Now assume that you have 1,200m instead of $10m. Calculate the profit that can now be made through triangular arbitrage. You need to show all your workings. Ignore the time value of money. (10 marks)

(v) In the real world where there are transaction costs, there is always a positive bid-ask spread. Without doing any calculations, how the bid- price of Currency X in terms of Currency Y is the ask-price of Currency Y in terms of Currency X. (5 marks)

(vi) Briefly discuss whether triangular arbitrage should be considered as a mechanism to make profits or as a mechanism to restore competitive market equilibrium (or a combination or both). (10 marks)