Question 3

The spot dollar-pound rate is $1.40/1 and the forward rate is also $1.40/1. You expect the spot dollar-pound rate to be $1.55/1 in one year's time. You have 1 million (dollar equivalent is $1.4 million) to speculate with in the forward exchange market.

(i) Do you buy or sell 1 million in the forward market? (2 marks)

(ii) What is your profit in both dollars and pounds if you are correct and the spot dollar sterling rate is $1.55/1 in one year's time? Show your calculations. (4 marks)

(iii) What is your loss in dollars and pounds if you are wrong and the spot sterling rate is $1.20/1 in one year's time? Show your calculations. (4 marks)