Question $4$

a$)$ Differentiate between the different types of foreign exchange exposure that multinational

companies usually face when engaging in cross$-$border transactions

b$)$ Assume that the one$-$year interest rate is $3\%($per annum$)$ in the UK and $2\%($per annum$)$

in the Euro area. Also, assume that the current spot exchange rate of one pound to the euro

is $1\mathrm{.}1500/$ and that the corresponding one$-$year forward rate is $1\mathrm{.}1400/.$

i$)$ Provide calculations to show whether the Interest Rate Parity $($IRP$)$ theory holds.

ii$)$ A UK$-$based investor has $200,000$ to invest for a year either in the Euro area or the UK$.$

Using the above information, determine which investment will generate a higher return for them.

iii$)$ Discuss the extent to which your results in i$)$ and ii$)$ above provide support to the

Covered Interest Rate Parity $($CIRP$)$ condition.