Question

A currency speculator expects the spot rate of British Pounds(GBP) to change from $2.00 to $2.20 in 6 months. Assume the speculator has access to credit lines of USD 20,000,000 in the US and GBP 10,000,000 in UK. The annual borrowing and lending Rates are 6 percent in the US and 4 percent in UK. In order for the speculator to take advantage from the expected spot rate change in GBP, it should?

Answer 1

Step 1 : Borrow US $ 20,000,000

Outflow after 6 months = $ 20,000,000 * [ 1 + ( 0.06 / 2 ) ]

                                  = $ 20,600,000

Step 2: Convert spot in to GBP

Investment amount = $ 20,000,000 / 2

                            = GBP 10,000,000

Step 3: Investment in GBP

Receivable after 6 months = $ 10,000,000 * [ 1 + ( 0.04 / 2 ) ]

                                      = GBP 10,200,000

Step 4: Convert into $

Conversion amount = 10,200,000 * 2.20

                            = $ 22,440,000

Profit = 22,440,000 - 20,600,000

         = $ 1,840,000 Answer