How much is your arbitrage profit in Euros at expiration, if you know that the current...

How much is your arbitrage profit in Euros at expiration, if you know that the current exchange rate is Euro 1.2 / GBP, the 60-day forward rate is Euro 1.15 /GBP, the risk free rate in Europe is 2% and the risk free rate in the UK is 3.6%? Make your calculation so that the spot transaction is for GBP 500,000.

Answer is 23,603.66 please provide detailed solution

Solutions

Expert Solution

As per Interest rate parity:

As per Interest rate parity the difference in spot fate and forward rate exits due to differences in interest rate between two countries.

F/S = (1+ra)/(1+rb)
F= forward rate
S = spot rate.
ra = interest rate of price currency.
rb= interest rate of base currency.

If the above equation does not hold good then there is a chance of Arbitrage.

Answer: 23,478.26 (rounding off errors from your answer).

ANSWER IN THE IMAGE. FEEL FREE TO ASK ANY DOUBTS. THUMBS UP PLEASE.

jeff jeffy answered 1 year ago

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