The US 1 year spot rate is 3.61% and the Mexican 1 year spot rate is 7.44%. A US investor purchases a Mexicancorporate bond with an expected 1 year return of 9.76%, as measured in Mexican peso. The current USD/MXPexchange rate is 0.18. If the investor decides to hedge the currency risk exposure in the forward market, whatwould be the expected return on this portfolio, if interest rate parity holds?

The expected return on the portfolio, if interest rate parity holds, is 6.67%.Explanation:Expected…

Answered: The US 1 year spot rate is 3.61% and…

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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Omni Advisors, an international pension fund manager, uses the concepts of purchasing power parity (PPP) and the International Fisher Effect (IFE) to forecast spot exchange rates. Omni gathers the financial information as follows: Base price level Current U.S. price level Current South African price level Base rand spot exchange rate Current rand spot exchange rate Expected annual U.S. inflation Expected annual South African inflation Expected U.S. one-year interest rate Expected South African one-year interest rate 100 105 111 Answer is complete but not entirely correct. $ 0.1684 X $0.178 $0.161 Calculate the following exchange rates (ZAR and USD refer to the South African rand and U.S. dollar, respectively): ZAR spot rate under PPP 7% 5% 10% 8% a. The current ZAR spot rate in USD that would have been forecast by PPP. (Do not round intermediate calculations. Round your answer to 4 decimal places.)
Which of the following best describes the terms 'long forward position' and 'short forward position' in foreign exchange trading? A short forward position is holding a currency for a short duration, while a long forward position is holding it for a longer period. A short forward position means you have agreed to sell a currency in the future, while a long forward position means you have agreed to buy it in the future. A long forward position is when you expect the currency's future spot rate to decrease, and a short forward position is when you expect it to increase. A long forward position means you have agreed to sell a currency in the future, and a short forward position means you have agreed to buy it in the future.
Omni Advisors, an international pension fund manager, uses the concepts of purchasing power parity (PPP) and the International Fisher Effect (IFE) to forecast spot exchange rates. Omni gathers the financial information as follows: Base price level Current U.S. price level Current South African price level Base rand spot exchange rate Current rand spot exchange rate Expected annual U.S. inflation Expected annual South African inflation. Expected U.S. one-year interest rate Expected South African one-year interest rate ZAR spot rate under PPP 100 105 111 $0.190 $0.173 Calculate the following exchange rates (ZAR and USD refer to the South African rand and U.S. dollar, respectively): a. The current ZAR spot rate in USD that would have been forecast by PPP. (Do not round intermediate calculations. Round your answer to 4 decimal places.) Expected ZAR spot rate 10% 8% 138 11% b. Using the IFE, the expected ZAR spot rate in USD one year from now. (Do not round intermediate calculations. Round…
Suppose that the nominal interest rate in the euro area is 2%, and the nominal interest rate in Switzerland is 4%. Suppose inflation is expected to be 0.5% in the euro area. If the Fisher Effect holds, then the real interest rate in the euro area is approximately the expected inflation in Switzerland is O2%; impossible to determine. 1.5%; 2.5% 2.5%; 0.5% None of the above is correct. 1.5%; 0.5% and
Foreign Exchange Risk and the Cost of Borrowing Swiss Francs. The chapter demonstrated that a firm borrowing in a foreign currency could potentially end up paying a very different effective rate of interest than what it expected. Using the same baseline values of a debt principal of SF1.5 million, a one-year period, an initial spot rate of SF1.4700/5. a 5.148% cost of debt, and a 34% tax rate, what is the effective after-tax cost of debt for one year for a U.S. dollar-based company if the exchange rate at the end of the period was a. SF14700/$ b. SF1.4300/5 c. SF1.3980/ d. SF1.6050/5 GULD a. If the exchange rate at the end of the period was SF1.4700/5, what is the effective after-tax cost of debt? % (Round to four decimal places)
Suppose a U.S. investor wishes to invest in a British firm currently selling for £100 per share. The investor has $24,000 to invest, and the current exchange rate is $2/£. Consider three possible prices per share at £95, £100, and £105 after 1 year. Also, consider three possible exchange rates at $1.60/£, $2/£, and $2.40/£ after 1 year. Calculate the standard deviation of both the pound- and dollar-denominated rates of return if each of the nine outcomes (three possible prices per share in pounds times three possible exchange rates) is equally likely. (Do not round intermediate calculations. Round your percentage answers to 2 decimal places.) .
A financial institution has just sold 1,000,000 6-month European call options on the Japanese yen. Suppose that the spot exchange rate is 0.80 cents per yen, the exercise price is 0.81 cents per yen, the risk-free rate on the US dollar is 2.5% per annum, the risk-free rate in Japan is 0.5% per annum, and the volatility of the yen is 10% per annum. Calculate the delta (D), gamma (G), vega (n), theta (Q), and rho (r) of the financial institutions' position. Interpret with an explanatory sentence the meaning of each of the calculations.
Country Risk and Project NPV. Atro Co. (a U.S. firm) considers a foreign project in which it expects to receive 10 million euros at the end of 1 year. While it realizes that its receivables are uncertain, it definitely decides to hedge receivables of 10 million euros with a forward contract today. As of today, the spot rate of the euro is $1.20, while the 1-year forward rate of the euro is presently $1.24, and the expected spot rate of the euro in one year is $1.19. The initial outlay of this project is $7 million. Atro has a required return of 18 percent. Estimate the NPV of this project based on the expectation of 10 million euros in receivables. Now estimate the NPV based on the possibility that country risk could cause a reduction in foreign business, such that Atro Co. only receives 4 million euros instead of 10 million euros at the end of 1 year. Estimate the net present value of the project if this form of country risk occurs.
Suppose one Euro can purchase 1.25 U.S. dollars today in the foreign exchange market, and currency forecasters predict that the Euro will depreciate by 20% against the US dollar over the next 60 days. How many dollars will a Euro buy in 60 days? (Please show work)
Foreign Exchange Risk and the Cost of Borrowing Swiss Francs. The chapter demonstrated that a firm borrowing in a foreign currency could potentially end up paying a very different effective rate of interest than what it expected. Using the same baseline values of a debt principal of SF 1.6 million, a one-year period, an initial spot rate of SF 1.4600/$, a 4.934% cost of debt, and a 38% tax rate, what is the effective after-tax cost of debt for one year for a U.S. dollar-based company if the exchange rate at the end of the period was: a. 1.4600SF/$ b. 1.4000SF/$ c. 1.3350SF/$ d. 1.5730SF/$
The next problem is about covered interest rate parity. Assume that the home country is the Philippines, and a Filipino investor is mulling whether or not to invest P1 million in the US or in the PH. Bonds in either country mature in just 1 year. The initial parameters are as follows: iPH ius = = 8% ● et+1 = 12% • et P50/USD = P55/USD Answer the following: • If the Filipino invests in a PH bond for 1 year, how much will she earn? • If the Filipino invests in a US bond for 1 year, how much will she earn in peso terms? • Is there a difference between the two values above? • How much did the peso depreciate/appreciate from time t to t + 1? • For the investor to be indifferent between investing here and abroad, she should engage in a forward exchange rate contract at what rate Fț?
The table below shows interest rates on 10-year bonds for a sample of countries that share a common currency (the euro) (Source: Bloomberg, 08/2018). Assume that investors are not entertaining the possibility that one of these countries will abandon the euro (and expose investors to exchange rate risk). Which country is likely considered to be the greatest default risk among the group? Spain Greece Netherlands Italy France Italy Spain Netherlands Portugal Greece 0.68% 3.09% 1.45% 0.42% 1.82% 4.21%

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