Question

Assume that the spot rate for RM per dollar is RM4.1245 - RM4.1256/ $, 3 month- forward rate is RM4.1268 - RM4.1284/$

1. Calculate forward premium or discount for USD

2. Calculate forward premium or discount for RM

Answer 1

We can use the following formula to work out the percentage forward premium or (discount) for the foreign currency, i.e. the currency in the denominator:

When the result is positive, it is a forward premium and when its negative, it is the forward discount.

1) Forward Premium on Selling Rate =( F - S) / S * 12/ N * 100

=(4.1268-4.1245) / 4.1245 * 12/3 * 100

=.2231 %

Because we get a positive figure, the foreign currency (i.e. USD) trades at a forward premium.

Forward Premium on Buying Rate = (4.1284 - 4.1256) / 4.1256 * 12 / 3 * 100

=.0028*4*100

=.2715 %

2) For calculating forward premium or discount for RM we need to first find out the USD/ RM buying and selling rate

USD /RM Spot Selling rate = 1 /(RM / USD Buying rate )

= 1 /4.1256 = .2424

USD/ RM Spot Buying rate = 1 /(RM/ USD Selling rate)

= 1 / 4.1245 = .2425

USD /RM Forward Selling rate = 1 /(RM / USD Buying rate )

= 1 /4.1284 = .2422

USD/ RM Forward Buying rate = 1 /(RM/ USD Selling rate)

= 1 / 4.1268 = .2423

Forward Premium on Selling Rate =( F - S) / S * 12/ N * 100

=(.2422 - .2424 ) / .2424 *4*100

= - .33%

Because we get a negative figure, the foreign currency (i.e. USD) trades at a forward discount.

Forward Premium on Buying Rate = (.2425-.2423) / .2423 *4*100

=.0002 / .2423 * 4*100

= -.33 %

Because we get a negative figure, the foreign currency (i.e. USD) trades at a forward discount.