Question
In: Accounting
The spot rate between the U.K. and the U.S. is £.7554/$, while the one-year forward rate...
The spot rate between the U.K. and the U.S. is £.7554/$, while the one-year forward rate is £.7528/$. The risk-free rate in the U.K. is 4.35 percent and risk-free rate in the United States is 2.62 percent. How much in profit can you earn on $5,000 utilizing covered interest arbitrage?
Solutions
Expert Solution
Investment in United States:
If we invest $5,000 in US,
Value after one year = Amount Invested + Risk free return
= $5,000 + (2.62% of $5,000)
= $5,131
Investment in United Kingdom:
We have to convert $ into £
Value of £ by converting $5,000 at spot rate = $5,000 * 0.7554 i.e. £3,777
Now Invest £3,777 in UK at 4.32% risk free rate
Value after one year = Amount Invested + Risk free return
= £3,777 + (4.32% of £3,777)
= £3,940.1664
Now convert £ into $ at ne year forward rate
Money received in $ = £3,940.1664 / 0.7528 i.e. $5,234.01
Profit from Covered Interest Arbitrage = $5,234.01 - $5,131 i.e. $103.01
ekkarill92 answered 2 years agoRelated Solutions
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one‑year forward rate of the Singapore dollar is $.61. The
probability distribution of the future spot rate in one year is
forecasted as follows:
Future
Spot
Rate Probability
$.60 25%
.63 45
.65 30
Assume that one‑year put options on Singapore dollars are
available, with an exercise price of $.64 and a premium of $.04 per
unit. One‑year call options on Singapore dollars are available with
an exercise price of $.61 and a...
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The existing spot rate of the Singapore dollar is $.62. The
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probability distribution of the future spot rate in one year is
forecasted as follows:
Future
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$.60 25%
.63 45
.65 30
Assume that one‑year put options on Singapore dollars are
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unit. One‑year call options on Singapore dollars are available with
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