tb05 - Kirt C. Butler, Multinational Finance, 3rd edition...

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Kirt C. Butler, Multinational Finance , 3 rd edition Chapter 5 The International Parity Conditions True/False 1. The law of one price states that “Equivalent assets sell for the same price.” ANS: True. 2. Pure or riskless arbitrage is defined as a profitable position obtained with no net investment and no risk. ANS: True. 3. Speculators make their profit from situations in which they have no net investment and no risk. ANS: False. They typically have an investment at risk. 4. Arbitrageurs make their profit by identifying situations in which they can profitably put their own money at risk. ANS: False. Pure (or riskless) arbitrage involves no risk. 5. The actions of arbitrageurs promote the law of one price in currency markets. ANS: True. 6. Real assets are more likely to conform to the law of one price than financial assets. ANS: False. Because market frictions are generally lower for financial assets than for real assets, financial assets are more likely to conform to the law of one price. 7. Prices in two currencies are related through the equation P d = P f S d/f . ANS: True. 8. Prices in two currencies are related through the equation P d = P f / S d/f . ANS: False. Prices are related through the equation P d = P f S d/f or, equivalently, P d / P f = S d/f . 9. Prices in two currencies are related through the equation P d = P f / S f/d . ANS: True. P d = P f S d/f = P f / S f/d . 10. Locational arbitrage ensures that bilateral exchange rates are in equilibrium. ANS: True. 11. Even if quoted exchange rates do not allow arbitrage, banks quoting the lowest offer prices in a currency will attract the bulk of customer purchases in that currency. ANS: True. 12. A bank is in a long euro and short yen position when it has purchased euros and sold yen. ANS: True. 13. A bank is in a short euro and long yen position when it has purchased euros and sold yen. ANS: False. Purchasing (selling) an asset creates a long (short) position in that asset. 14. A currency cross rate does not involve the domestic currency. ANS: True. 15. The following exchange rates are in equilibrium: S SFr/€ = SFr1.60/€, S €/¥ = €0.0125/¥, and S ¥/SFr = ¥50.00/SFr. 31
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Kirt C. Butler, Multinational Finance , 3 rd edition ANS: True. S SFr/€ S €/¥ S ¥/SFr =(SFr1.60/€)(€0.0125/¥)(¥50/SFr) = 1. 16. The following exchange rates are in equilibrium: S SFr/€ = SFr1.7223/€, S €/¥ = €0.009711/¥, and S ¥/SFr = ¥61.740/SFr. ANS: False. S SFr/€ S €/¥ S ¥/SFr = 1.0326 > 1. Triangular arbitrage would yield a profit so long as transactions costs are less than about 3.26%. 17. Suppose S SFr/€ = SFr1.50/€ and S ¥/€ = ¥135/€. The spot rate should be S ¥/SFr = ¥90/SFr. ANS: True. S
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tb05 - Kirt C. Butler, Multinational Finance, 3rd edition...

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