Answers+to+FX+no+4

Answers+to+FX+no+4 - 1. Convert £1.359 to $2.65 @ Spot...

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Click to edit Master subtitle style Answers to FX Class Problems
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Problem #1 Spot £/$ = 0.5128 means £0.5128 = $1.000 $100.00 = £51.28
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Problem #2 A) @ Spot £/$ = 0.5128 (from #1) Assuming PPP, coffee SHOULD cost have same “cost” in each currency: $2.65 * .5128 = £1.36 B) Good Deal?? Doesn’t seem like it. Expensive!! Implies an exchange rate of: £2.00 = $2.65 £1.00 = $1.325 Spot £/$ = 0.755 Spot $/£ = 1.325
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Problem #2 Possible reasons might include: US or UK might have special trade deals with coffee exporting nations leading to different costs for coffee (Not open trade) A Venti Caffe Americano might be “valued” differently in each country The currency might be managed or restricted in some way (not freely floating) This might be an arbitrage opportunity!!!!
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Arbitrage Opportunity SMG (UK) Hedge Fund would:
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Unformatted text preview: 1. Convert £1.359 to $2.65 @ Spot £/$ = 0.5128 2. Purchase a Venti Caffe Americano at SMG Starbucks for $2.65 3. Quickly (before it cools!) ship it to London and sell for £2.00 • Bought for £1.359 • Sold for £2.00 • Profit = £0.641 !!!! (Ignoring transaction cost!) Problem #3 x 1.10 $110 £61.714 Exchange £61.714 for $110 at one-year forward rate F $/£ = 110.00 = 1.782 61.714 £57.14 ONE YEAR OUT TODAY x 1.08 Exchange $ for £ Spot $/£ = 1.75 (Spot £/$= 0.5714) Invest for one year at 10% Invest for one year at 8% $100 Problem #4 • If F $/£ = 1.75 in problem #3, then the £61.714 one year out would be converted into only $108.00, – £61.714 x 1.75 = $108.00 • The US$ investment option results in $110.00 • An arbitrageur would take advantage by the following:...
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This note was uploaded on 01/09/2011 for the course SMG 122 taught by Professor Arnold during the Spring '09 term at BU.

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Answers+to+FX+no+4 - 1. Convert £1.359 to $2.65 @ Spot...

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