The interest rates in the Eurozone and the United States are 6.04% and 3.44%, respectively. According to Wells Furthergo Bank, a US dollar costs 0.5449 euros, and the one-year forward rate is 0.5163 euros per US dollar. James believes that the exchange rate will be EUR 0.4362/USD in a year, and he can borrow USD 1,600,000 (or its EUR equivalent) from the bank. How much profit or loss can he make by engaging in a carry trade, provided his prediction is accurate? a. EUR 353,156.31 b. USD 464,398.64 c. USD 464,398.64 d. EUR 353,156.31

The interest rates in the Eurozone and the United States are 6.04% and 3.44%, respectively. According to Wells Furthergo Bank, a US dollar costs 0.5449 euros, and the one-year forward rate is 0.5163 euros per US dollar. James believes that the exchange rate will be EUR 0.4362/USD in a year, and he can borrow USD 1,600,000 (or its EUR equivalent) from the bank. How much profit or loss can he make by engaging in a carry trade, provided his prediction is accurate? a. EUR 353,156.31 b. USD 464,398.64 c. USD 464,398.64 d. EUR 353,156.31

Essentials Of Investments

11th Edition

ISBN:9781260013924

Author:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.

Publisher:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.

Chapter1: Investments: Background And Issues

Section: Chapter Questions

Problem 1PS

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An investor has $10m to invest and has the following options: 1) depositing it in a US bank account paying 3% annually, or 2) depositing it in a German bank, where the annual rate of interest is only 2%. Assume that today the current spot exchange rate for the Euro is given as $1.2750, while the 1-year Dollar-Euro forward rate is posted as 1.2995. a. Based on your knowledge of the relationship between interest rate differentials and the current dollar-euro forward premium or discount, in which country should the investor deposit her money? why? b. If you had the power to adjust the German interest rate, with all else constant, what rate would you establish, such that the investor is totally indifferent between depositing in either countries? Show your work and the logic behind it.
Suppose you observe that 90-day interest rate across the eurozone is 5%, while the interest rate in the U.S. over the same time period is 1%. Further, the spot rate and the 90-day forward rate on the euro are both $1.60. You have $500,000 that you wish to use in order to engage in covered interest arbitrage. To start, you exchange your $500,000 for (for when you convert the euros back to dollars), you euros, and deposit the funds in a bank in the eurozone. To lock in the exchange rate euros forward at a forward rate of $1.60.
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A currency dealer can borrow $1,400,000 (or the equivalent in euros) for one year. The one-year interest rate is 6.80% in the U.S. and 4.20% in the euro zone. The spot exchange rate is $1.2128/€1.00 and the one-year forward exchange rate is $1.2597/€1.00. What arbitrage profit results if the trader borrows the maximum available funds? $77,688.53 OR €61,672.25 $36,400.00 OR €28,895.77 $9,850.03 OR €7,819.35 $100,995.09 OR €80,173.92 $15,887.14 OR €12,611.84 $20,013.03 OR €15,887.14

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