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Question 4. (13 Marks in total) (a) Jade Smith is a foreign exchange trader for a bank in New York. He has $1 million for

Question 4. (13 Marks in total)

(a) Jade Smith is a foreign exchange trader for a bank in New York. He has $1 million for a short-term money market investment and he faces the following quotes: (Assuming there are 360 days a year)

Spot exchange rate (SFr/$)

1.2810

3-month forward rate (SFr/$)

1.2740

US dollar annual interest rate

4.8%

Swiss franc annual interest rate

3.2%

He wonders whether he should invest in US dollars for 90 days or make a covered interest arbitrage (CIA) investment in the swiss franc, and what is the profit/loss if he carries out this investment. (7 Marks)

(b) Using the same values in the table above, Jade decides to seek the full 4.8% return available in the US dollars by not covering his forward dollar receipts an uncovered interest arbitrage (UIA) transaction. What is the maximum expected spot exchange rate (SFr/$) at the end of the 90-day period at which Jade can avoid losing money? (6 Marks)

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