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Answer the following THREE questions. You are evaluating a covered interest rate arbitrage strategy (CIA) versus an uncovered interest rate arbitrage strategy (UIA) based on the following information:
Spot Rate 1.2500 $/€; 3-month forward rate 1.2900 $/€; 3-month interest rate on U.S. dollars: 8.00% per annum; 3-month interest rate on Euro (€): 4.00% per annum.
1. CIA: What should you do if you carry out a covered interest arbitrage?
a) Buy $ spot.b) Lend € 3 month later.c) Borrow $ now.d) Buy € forward.e) The arbitrage profit is $1.0423 per $ transacted.
2. CIA: What will be the impact on the currency and interest rate markets?
a) $ appreciates in the spot market.b) Interest rate on € decreases.c) Spot rate (S expressed as $/€) decreases.d) Interest rate on $ decreases.e) Forward rate (F expressed as $/€) increases.
3. UIA: What should you do if you carry out an uncovered interest arbitrage?
a) Borrow $ now.b) Lend € 3 month later.c) Buy € forward.d) Buy $ spot.e) The arbitrage profit is $1.0525 per $ transacted.
Finance is about Gunns Ltd, a company in dealing with forestry products in Australia. The company has also been listed in Australian Stock Exchange. As many companies producing forestry products, even Gunns Ltd is facing various problems. Due to the ..
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