Question

Suppose the spot exchange rate between Brazilian real and euros is S0BRL∕EUR= BRL 2.9488∕EUR. Calculate forward exchange rates at 1-year,2-year, and 3-year horizons under these two scenarios. a. Yield curves in euros and real are flat. Annual Eurocurrency interest rates are iBRL= 5 percent and iEUR= 1 percent for the next several years.

b. The euro yield curve is flat at iEUR= 1.0 percent per year. Brazilian real interest rates are 5.5 percent per year at a 1-year horizon, 5.0 percent at a2-year horizon, and 4.8 percent at a 3-year horizon.

Answer 1

Solution:

A. Forward exchange rates at 1-year,2-year, and 3-year horizons under these scenario A

As given in question that interest rates of both cureency are flat. Annual interest rates are iBRL= 5 percent and iEUR= 1 percent for the next several years

We Calculate forward exchange rate by following Formula

FORWARD RATE/SPOT RATE = (1+Int of BRL/1+Int of EUR)

At 1ST Year

FR/BRL2.9488 = (1+..05)/(1+.01)

FR at Year End 1= BRL 3.0656/EUR

At 2ND Year.

FR/BRL3.0656 = (1+..05)/(1+.01)

FR at Year End 2= BRL 3.1870/EUR

At 3RD Year.

FR/BRL3.1870 = (1+..05)/(1+.01)

FR at Year End 3= BRL 3.3132/EUR

B. Forward exchange rates at 1-year,2-year, and 3-year horizons under these scenario B

Given that the euro yield curve is flat at iEUR= 1.0 percent per year. Brazilian real interest rates are 5.5 percent per year at a 1-year horizon, 5.0 percent at a2-year horizon, and 4.8 percent at a 3-year horizon.

By Using Same formula used as above

At 1ST Year

FR/BRL2.9488 = (1+..055)/(1+.01)

FR at Year End 1= BRL 3.0802/EUR

At 2ND Year.

FR/BRL3.0802 = (1+..05)/(1+.01)

FR at Year End 2= BRL 3.2022/EUR

At 3RD Year.

FR/BRL3.2022 = (1+..048)/(1+.01)

FR at Year End 3= BRL 3.3227/EUR