Question

Definitions:

Forward ERs, Swaps, Triangle arbitrage, Covered interest arbitrage, Carry trade

Answer 1

1. Forward exchange rates are exchange rates at which a party will be willing to enter into a contract to receive at a future date.forward exchange rates will be determined by the spot Exchange rate and the inflation and interest rate in domestic countries as well as foreign countries.

2. Swaps are types of derivative contracts which will be reflecting that two parties has agreed to exchange their cash flows or liabilities and they are trying to secure themselves so it is a derivative contract in order to hedge the risk associated with the future fluctuations by entering into opposite contract

3. Triangular arbitrage is arbitrage opportunities which are created by three different currencies and it will be exploited by various arbitrageurs as they will be trying to make profits by finding different pairs between these three currencies which will yield them profits as there will be descripencies of exchange rates between these currencies

4. Covered interest arbitrage is an arbitrage trading strategy in which the trader will be trying to capitalise upon the interest rate differential which will be existing between two countries and he will be also trying to hedge those risks arising out of entering into the interest rate differential through forward contract exposure so that he will eliminate the risk through derivative contract

5. Carry trade will generally involve at borrowing in the market at a lower rate of interest and then investing that borrowed money into some securities which will be offering with a higher rate of return.this type of carry trade are mainly focused with currency exchange rate.