EXERCISE 3 [36 marks] Suppose that the current EUR/GBP exchange rate is 0.86 per euro. The current 6-month interest rates are: GBP 4\%, EUR 6% There are three 6-month forward contracts available, with the following exchange rates: Contract A B C EUR/GBP 0.860.850.90 a) You expect to incur an expense of 50,000 in six months. Can you identify any relevant risk in terms of the EUR/GBP exchange rate? Would you use any of the available forward contracts to hedge against this risk? Explain and provide an example. [8 marks] b) You expect to receive an inheritance of 50,000 in six months, and you expect the EUR/GBP exchange rate to remain at 0.86 per euro until then. Would you enter in any of the available contracts today? If so and assuming your expectation about the future exchange rate is correct, how much profit/loss would you make? [10 marks] c) Given the current EUR/GBP exchange rate and the available forward contracts, can you identify any arbitrage opportunities? If yes, provide two examples. In each case, calculate arbitrage profit and explain how this profit can be earned. [11 marks] d) Based on the questions a) - c), discuss the three main types of investors in the futures market and how each of them can use futures contracts to meet their objectives. [7 marks]