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Telegram：ukassignment021 IFM Day 1 Answers
1. Quotes
Direct Indirect
In USA $1 = £0.6534
In UK £0.5221 = 100Yen
In Holland $1.3024 = 1 Euro
2. Exchange rates
a) convert $1000 at offer rate $1.5955
1000 / 1.5955 = £626.76
b) buy $1000 at bid rate 1.5951
1000/1.5951 = £626.92
So a round trip costs 16p!!!!! (Not if you do it for small amounts via local bank or travel agent
c) Buy £5000 in Switzerland at offer rate – 1.6243
Cost = 5000 * 1.6243 = 8121.50 SFr
d) 3000Euro to £ at offer rate of 1.0708 = £2801.64
e) Buy £10,000 of Yen at bid rate 142.442 = 1,424,420 Yen
3. See attached table
4.
a) 1000 / 1.5955 = £ 538.39
Or more correctly
1000 / (1.5955+ (1.5955*0.0 / 12)) = £626.76
b) 1000/1.5951 = £626.92
Or more correctly
1000 (1.5955+ (1.5955*0.0)) = £626.92
c) 5000 * 1.6225 = 8112.50SFr
Or more correctly
5000 * (1.6243 -(1.6243*0.004/4) = 8113.38 SFr
d) 3000/ 1.0706 = £2802.17
Or more correctly
3000 /(1.0708 – (1.0708*0.002/12)) = £2802.11
e) 10000 * 141.495 = 1,414,950Yen
Or more correctly
10000* (142.442 – (142.442* 0.007) = 1,414,449 Yen
5. For equilibrium the forward rate should be 1.80 / (1.05 / 1.025) = $1.7571/ £
So the forward overvalues $.
So borrow £1m at 5% interest
Pay back £1.05m in 1 years time
Convert £1m to $1.8m (at spot rate)
Invest $1.8m at 2.5% in US, giving $1.845 in one years time
Enter a forward contract to convert $ to £ in one year at $1.70/£
Receive £1,085,294 in one year
Repay loan
Profit = £35,294 for No risk, and NO outlay!!!!
6 .In one years time
£1 = 1.045 / 1.04 * 1.6 = $1.6077
£1 = 1.025/1.04 * 200 = 197.12Yen
Yen / $ = 197.12 / 1.6077 = 122.61 Yen / $1
Or 200 / 1.6 * 1.025/1.045 = 122.61
7. Currently the markets are not in equilibrium, as real interest rate differs
With IFE Ex rate in one year would be – 1.85 * 1.03/1.05 = $1.8148 / £ (the dollar strengthens against the pound) – which should equal the current 1 year forward rate.
With PPP, Ex rate would be 1.85 * 1.02 / 1.025 = $1.8410/ £ (the dollar strengthens but not as much
However these are close.
Many factors could effect the actual exchange rates over time
8. The £ is strengthening against the Euro. Expectations theory is not holding http://www.ukassignment.org/ What is possible but not clear is whether the current exchange rate is in an equilibrium position
IRP suggests that interest rates in Europe must be higher than in the UK. Calculation suggests they must be approx 6.8%
Purchasing power parity suggests inflation must be higher in Europe than UK. Calculation suggests 4.7%%
This suggest (according to Fisher effect ) that markets are not in equilibrium as real returns are 1% p.a in UK and 2.1% in Europe