Dollar Return on Foreign Investments - (A) Over the past year, the dollar has depreciated by...

Dollar Return on Foreign Investments -

(A) Over the past year, the dollar has depreciated by about 10 percent against the euro. A year ago you took out a home equity loan in the U.S. at an interest rate of 8 percent and you invested the money in a German mutual fund that paid a 5 percent euro return. What net return did you earn on all of these transactions over the year? (PLEASE INCLUDE FORMULAS USED TO SOLVE PROBLEM).

(B) Over the past year, the dollar has appreciated by about 8 percent against the peso. A year ago you borrowed in the U.S. at an interest rate of 4 percent and you invested the money in a Mexican mutual fund that paid a 12 percent peso return. What net return did you earn on all of these transactions over the year? (PLEASE INCLUDE FORMULAS USED TO SOLVE PROBLEM).

Solutions

Expert Solution

(A) EUR to USD Exchange Rate 1 year ago = 1.119 EUR / $ or 0.894 $ / EUR (Data sourced from "Google Finance")

As the dollar has depreciated by 10 % against the euro in a year, it implies that 10 % more $ is purchasable today as compared to this time last year for one unit of euro.

Current Exchange Rate = 0.894 x 1.1 $ / EUR = 0.9834 $ / EUR or 1.0168 EUR / $

Let the home equity loan be of value $ 100000

Loan Liabiliy due after 1 year = 100000 x 1.08 = $ 108000

Euro Value of Loan = 100000 x 1.119 = $ 111900

Euro Value of Loan is invested at the German Mutual Fund return rate of 5 % to yield at present, an amount = 111900 x 1.05 = 117495 EUR

$ Value of Investment Yield = 117495 / 1.0168 = $ 115553.698

Net Profit = 11553.698 - 108000 = $ 7553.698

Net Return = (7553.698 / 100000) x 100 = 7.55 % approximately.

(B) Peso to USD Exchange Rate 1 year ago = $ 0.05579 / Peso (Data sourced from "Google Finance")

As the dollar has appreciated by 8 % against the peso in a year, it implies that 8% less $ is purchasable today as compared to this time last year for one unit of peso.

Current Exchange Rate = 0.05579 x 0.92 $ / Peso = 0.0513268 $ / Peso

Let the $ loan be of value $ 100000

Loan Liabiliy due after 1 year = 100000 x 1.04 = $ 104000

Peso Value of Loan = 100000 / 0.05579 = 1792435.92

Peso Value of Loan is invested at the Mexican Mutual Fund return rate of 12 % to yield at present, an amount = 1792435.92 x 1.12 = 2007528.231 Peso

$ Value of Investment Yield = 2007528.231 x 0.0513268 = $ 103040

Net Profit = 103040 - 104000 = - $ 960

Net Return = (-960 / 100000) x 100 = .- 0.96 %

jeff jeffy answered 1 year ago

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