Question
Please be precise and logical in answering the following questions. Please show the processes to reach your answers in a separate paper. 1. Suppose you
Please be precise and logical in answering the following questions. Please show the processes to reach your answers in a separate paper.
1. Suppose you have the following spot exchange rates:
1 = $1.27, euro 1 = $1.12, and 1 = euro 1.15.
i) Please check if the cross rate between the euro and the UK pound () is consistent or not.
ii) How much profit (in $ terms) could you make from trading $1,000? Describe your trading process to get your profit.
2. You purchased a European foreign exchange option contract to buy 5000 UK pound at the price of $1.27/ which expires today. You have paid $250 for the contract. Suppose the spot rate on the expiration date, today, is $1.29/, what will be your optimal decision for the contract (exercise or not exercise)?
3. The recent market data on the U.S. and UK are shown as:
the spot rate of the UK pound $1.27/
the 90-day forward rate $1.28/
the 180-day forward rate $1.30/
your expected future spot rate in 3 months $1.27/
your expected future spot rate in 6 months $1.29/
interest rate (TB) in the U.S.: 4% (per year)
interest rate (TB) in the UK.: 2% (per year)
If you have $1 million available for 3 months, where do you want to invest (assume no transaction costs)? Explain why.
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