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Assignment 2 Due date: September 30 (Friday) in class Problem set (6 problems): 1. CIA Assume the following interest rate and exchange rate quotes and you have $1,000,000 or its yen equivalent, to invest: Spot exchange rate: 180 day forward rate: 180 day $ interest rate: 180 day interest rate: 102.60/$ 101.80/$ 1.60% p.a. 0.80% p.a. . Is coved interest arbitrage worthwhile? If yes, what is your strategy and how much is your profit (show the steps)? What market forces would occur to eliminate any further possibilities of covered interest arbitrage? 2. Carry trade (UIA) If you decide to seek the higher interest rate in available in USD but not covering the forward dollar receipts, how should you redesign your strategy? Assess the riskiness of this decision. The Federal Reserve decided to keep the interest rate unchanged on September 21 meeting. However, there is a high expectation that the Fed might increase the interest rate later this year, how would you factor this into your decision? 3. Relative PPP Today's spot rate of the Mexican peso is MXP19.84/USD. Assume the relative PPP holds, the U.S. inflation over one year is expected to 1 percent, while the Mexican inflation is expected to be 3 percent. If you plan to go on vacation in Cancun, Mexico and will need 50,000 Mexican pesos in one year (which is $2520 at current spot rate). Determine the expected amount of dollars you need to pay for 50,000 Mexican pesos in one year. 4. Big Mac Index: a) Go to http://www.economist.com/content/big-mac-index and use the interactive chart to find the latest data of the Big Mac Index. Select USD as the base currency and complete the table below. Country United States Norway New Zealand Turkey Currency Price of a Big Mac in local currency Actual Exchange Rate Hong Kong b) Please use the data in the table above to calculate the USD price of a Big Mac in each country, the implied PPP exchange rate, and undervaluation/overvaluation of each currency. Your results should be the same as reported by Economist. 5. Futures Speculation a) Go to http://www.cmegroup.com/ and find the contract specification and quotes for Australian dollar FX futures. Complete the table below. Please report the time you get the data and include a screenshot of the data. Currency: Australian dollar Maturity Prior Settle Contract Size Dec 2016 b) If you believe Australian dollar will appreciate in value against USD and you expect the spot rate to be 0.8050 in Dec what should you do? c) If you buy 3 Dec Australian dollar futures and the sport rate at maturity is 0.7860 what is the value of your position? d) If you sell 10 Dec Australian dollar futures and the sport rate at maturity is 0.7750, what is the value of your position? 6. Options Speculation a) Go to http://www.cmegroup.com/ and find the quotes for euro (American) option. Complete the table below. Please report the time you get the data and include a screenshot of the data. Please round the premium to two decimal places. Currency: Euro Maturity: Dec 2016 Option Call Put Strike Price USD1.1200/EUR USD1.1200/EUR Premium (Prior Settle) b) Please calculate the buyer of the call option's gross profit, net profit and identify moneyness (ITM, ATM, OTM) and break-even point given different spot rates and complete the table below. Spot rate Exercise or not Gross profit Net profit Moneyness 1.0800 1.1000 1.1200 1.1400 1.1600 1.1800 c) Please illustrate the gross profit, net profit, moneyness, and break-even point of the call option in the graph. d) Please calculate the buyer of the put option's gross profit, net profit and identify moneyness (ITM, ATM, OTM) and break-even point given different spot rates and complete the table below. Spot rate Exercise or not Gross profit Net profit Moneyness 1.0600 1.0800 1.1000 1.1200 1.1400 1.1600 e) Please illustrate the gross profit, net profit, moneyness, and break-even point of the put option in the graph. f) If you believe euro will rise in value to 1.1600 in Dec, what should you do? g) If you believe euro will depreciate in value to 1.0800 in Dec, what should you do? Please note: 1. 2. 3. 4. You should do all problems individually first and keep a copy of the individual work The assignment should show both the steps and answer. Please type your assignment. Not typing the assignment will result in a 5-point deduction. Please include a cover page for your assignment using the template under the module Assignment 1 on Canvas. Not including the cover page will result in a 5-point deduction