Answered step by step
Verified Expert Solution
Link Copied!

Question

1 Approved Answer

Suppose that California Co., a U.S. based MNC, seeks to capitalize a difference in interest rates between euros and British pounds via the use of

Suppose that California Co., a U.S. based MNC, seeks to capitalize a difference in interest rates between euros and British pounds via the use of a carry trade. In particular, after 1 month, funds invested in euros will yield a 0.50% percent return, while funds invested in pounds will yield a return of 2.00% percent.

Currently the spot rate of the British pound is $1.00 while the spot rate of the euro is $0.80. In other words, the pound is worth 1.25 euros. California Co. expects these spot rates to remain constant over the next month.

The previous scenario assumed that the spot rates of the pound and the euro remained constant. However, there is a risk that the exchange rates change. Suppose that the euro appreciates over the course of the month, such that the cross exchange rate is now 0.78125 euros per pound. Assume the spot rate for the pound remains constant at $1.00 per pound

Under this new cross exchange rate of 0.78125, the 603,000 euros that California Co. needs to repay is equivalent to ??????? pounds. Thus, after repaying the loan, California Co. will have ??????? pounds from the 591,600 pounds they received from the initial investments. These pounds are equivalent to -$180,240.00, and represents a profit of $?????? over the initial $100,000 that California Co. used from their own funds.

Step by Step Solution

There are 3 Steps involved in it

Step: 1

blur-text-image

Get Instant Access to Expert-Tailored Solutions

See step-by-step solutions with expert insights and AI powered tools for academic success

Step: 2

blur-text-image

Step: 3

blur-text-image

Ace Your Homework with AI

Get the answers you need in no time with our AI-driven, step-by-step assistance

Get Started

Recommended Textbook for

The Oxford Handbook Of Quantitative Asset Management

Authors: Bernd Scherer, Kenneth Winston

1st Edition

0199553432, 978-0199553433

More Books

Students also viewed these Finance questions

Question

Describe the appropriate use of supplementary parts of a letter.

Answered: 1 week ago