iv. Ask 0.6152 0.6171 |]_ 0.6149 0.6166 0.6172 0.6165 0.6167 0.6176 BBL/USD Six-month forward - uotes -E_ Ask HSBC 0.5943 0.5972 In 0.5669 0.5911 Bank Lends 3.0% 13-1% BBL stands for Brazilian Real and USD for United States Dollar. Mr. Bent requests answers to the following questions from you: There appears to be a wide disparity between the spot quotes. If Clover wishes to simply use these markets to short BBL, that is, convert BBL revenues to USD, for instance it would choose to transact with Bradesco. But is there opportunity for currency arbitrage contained in these spot rates? Assume that USD1 million is directed towards this activity (6 marks) How will bank commissions for currency transactions affect arbitrage? Assume a round trip (for buying and selling) transaction fee of USD 175 (same fee in all banks; half of this amount for a single trip). Is this transaction identified in (i) above profitable after commissions? Next assume round trip commissions are a percentage fee of transaction size: What is the break-even percent commission? (4 marks) Mr. Bent notes high interest rates in Brazil. How can Clover deploy USD 1 million to exploit these rates? A possible strategy is to invest in a foreign currency and lock-in USD returns by using forward rates. Calculate the annualized return of such an investment. Note that quoted rates apply to six months transactions but have been annualized. Ignore bank commissions and fees. Compare your strategy with covered interest arbitrage. What are the similarities and differences? (10 marks) Employ an investment strategy Opposite to that discussed in (iii). That is, evaluate opportunities for depositing BRL 1 million in USD denominated interest bearing account. Apply the method used in answering question 3 b (iii). (11 marks) What should be the optimal arbitrage strategy of firms such as Clover in light of the calculations you did above? (4 Marks)