Question

In: Economics

You want to invest your $6000 in a financial asset. In 2020, one-year US bonds pay...

You want to invest your $6000 in a financial asset. In 2020, one-year US bonds pay an interest of 3% while one-year Brazilian bonds pay an interest of 7%. Current exchange rate, E₂₀₂₀, is 3.7 ($1 = 3.7 BRL). Calculate the expected return on investing in US and Brazilian bonds and make your investment decision for the following expected exchange rates (20 points):

E₂₀₂₁^e = 3.2
E₂₀₂₁^e = 4

Expert Solution

a)

If the investment is made US bonds, expected return=3%

Now assume investment is made in Brazilian bond,

Investment amount=6000*Exchange rate in 2020=6000*3.70=22200 BRL

Accumulation after 1 year=22200*(1+7%)=23754 BRL

If this accumulated to US $ at a exchange rate of 3.2 BRL/$

Converted amount in US$=23754/3.2 =$7423.125

Expected rate of return (if investment is made in brazil bonds)

=(7423.125-6000)/6000=23.72%

b)

If the investment is made US bonds, expected return=3%

Now assume investment is made in Brazilian bond,

Investment amount=6000*Exchange rate in 2020=6000*3.70=22200 BRL

Accumulation after 1 year=22200*(1+7%)=23754 BRL

If this accumulated to US $ at a exchange rate of 4 BRL/$

Converted amount in US$=23754/4 =$5938.50

Expected rate of return (if investment is made in brazil bonds)

=(5938.50-6000)/6000=-1.03%

Rahul Sunny answered 2 years ago

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