Question

Speculation
Welles Fargo Bank, based in Los Angeles, California, has the ability to borrow 30 million U.S. dollars
(USD) at 5% annualized. It can then invest in either the euro (EUR), the Australian dollar (AUD), or the
Canadian dollar (CAD). For simplicity, suppose that the lending rate of all of the euro, the Australian
dollar, and the Canadian dollar is 3% annualized over a 10-day time period. The spot rates and the
expected rates of the euro, Australian dollar and the Canadian dollar are given in the table below.

	Spot Rate (10/27/2019, 03:00 PM)	Expected Spot Rate After 10 days
EUR-USD 1 EUR in USD	1.1080	1.1302
AUD-USD 1 AUD in USD	0.6822	0.7027
CAD-USD 1 CAD in USD	0.7657	0.7963

Question:
Based on the information given above, determine in which currency should Welles Fargo Bank invest;
EUR, AUD or CAD? Justify your answer. Calculate the potential profit in U.S. dollars. Calculate the
effective rate of return on investment.

Answer 1

Investment in Euro

$30 million will be converted to Euro at the current spot rate = $1.108/Euro to get 30/1.108 million Euros

which after 10 days of investment will become 30/1.108*(1+0.03*10/365) million Euros =  27.076 millio Euros, which after conversion to $ will result in $27.076*1.1302 million =$30.60133 million

The loan in $ to be repaid = $30 million * (1+0.05*10/365) = $30.0411 million

So, profit = 30.60133 - 30.0411 = $0.56023866 million or $560,238.66

Investment in Australian Dollar

$30 million will be converted to AUD at the current spot rate = $0.6822/AUD to get 30/0.6822 million AUD = 43.9754 million AUD

which after 10 days of investment will become 43.97545*(1+0.03*10/365) million AUD =  44.012 million AUD, which after conversion to $ will result in $ 44.012*0.7027 million =$30.9268 million

The loan in $ to be repaid = $30 million * (1+0.05*10/365) = $30.0411 million

So, profit = 30.9268 - 30.0411 = $0.88579776 million or $885,797.76

Investment in Canadian Dollar

$30 million will be converted to CAD at the current spot rate = $0.7657/CAD to get 30/0.7657 million CAD = 39.17984 million CAD

which after 10 days of investment will become 39.17984*(1+0.03*10/365) million CAD =  39.21204 million CAD, which after conversion to $ will result in $ 39.21204*0.7963 million =$31.22455 million

The loan in $ to be repaid = $30 million * (1+0.05*10/365) = $30.0411 million

So, profit = 31.22455 - 30.0411 = $1.18345001 or $1,183,450.01

So, investment should be done in CADas the potential profit is maximum $1183450.01

Effective return on investment (r) is calculated as

$30 million* r= 1183450.01

=> r =0.0394483 or 3.9448% in 10 days