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Assume you are a foreign exchange arbitrageur at Horizon Capital trading the currency pair of the Japanese Yen and U.S. Dollar. As such, you observe

Assume you are a foreign exchange arbitrageur at Horizon Capital trading the currency pair of the Japanese Yen and U.S. Dollar. As such, you observe that the Japanese yen to dollar spot exchange rate is 108/$, and the three-month forward exchange rate is 107.30/$. The three-month $ interest rate is 5.20 per cent per annum, and the three-month interest rate is 1.30 per cent per annum. (a) Explain and demonstrate if interest rate parity holds

(b) Does an arbitrage opportunity exist? And if so, using the sum of $1,000,000 for this purpose, explain how you would proceed to make an arbitrage profit in dollar term

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