Fin4328 Moore More Chapter 4 Problems

Chapter 4 and Arbitrage Problems

Fin 4328 Moore Summer 2006
4.7 The infation rates in the U.S. and France are expected to be 4% per
annum and 7% per annum, respectively. I the current spot rate is !."#$#,
then the expected spot rate in three years is %discrete compoundin&' (
a. !.""$#
b. !.""")
c. !.#*+4
d. !.#**)
4.* I expected infation is )#% and the real re,uired return is "#%, then the
Fisher e-ect says that the nominal interest rate should be exactly
%discrete compoundin&'
a. .#%
b. .)%
c. ))%
d. ")%
4."* Suppose the price indexes in /exico and the U.S., 0hich both be&an the
year at "##, are at "+# and "#., respectively, by the end o the year. I
the exchan&e rate be&an the year at /ex!4.$ 1 !" and ended the year at
/ex!$.* 1 !", then the chan&e in the real value o the peso %a 2 2
indicates a real devaluation' durin& the year is %discrete compoundin&'
a. #%
b. $.#%
c. "3.$%
d. 3.)%
4.). Suppose that spot pounds are sellin& at !".7.4), 0hile *# day or0ard
pounds are sellin& at !".7"$+. 4t the same time, Sin&apore 5ollar spot
and *# day or0ard rates are !#.+".3 and !#.+#"4 %US direct',
respectively. These ,uotes imply the
a. pound is sellin& at a ..37% or0ard discount relative to the Sin&apore
dollar
b. pound is sellin& at a )..7% or0ard premium relative to the Sin&apore
5ollar
c. Sin&apore dollars are sellin& at a #.*7% or0ard discount relative to the
pound
d. Sin&apore dollars are sellin& at a ".$4% or0ard premium relative to
the pound
4... Suppose the S0iss ranc revalues rom !#.4# at the be&innin& o the year
to !#.44 at the end o the year. U.S. infation is $% and S0iss infation is
.% durin& the year. 6hat is the real devaluation %7' or real revaluation %8'
o the S0iss ranc durin& the year( %discrete'
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Fin4328 Moore More Chapter 4 Problems
a. 8 7.*%
b. 7 $..%
c. 8 3."%
d. 7 ".+%
4.37 The spot rate (US ire!t" on the #e$ %ealan ollar &.33 an the 18' a( )or$ar rate is
&.34. The i))eren!e bet$een the t$o rates means
a. interest rates are hi*her in the U.S. than in #e$ %ealan
b. the #e$ %ealan ollar has risen in relation to the US ollar
!. the in)lation rate in #e$ %ealan is e!linin*
. the #e$ %ealan +ollar is e,pe!te to )all in -al.e relati-e to the US ollar
be!a.se there is a hi*h in)lation rate in the U.S.
4.2 The theor( o) relati-e p.r!hasin* po$er parit( states that/ bet$een t$o nations/ the
a. in)lation rates are .nrelate
b. e,!han*e rate i))eren!e re)le!ts the in)lation rate i))eren!e
!. in)lation rate is *reater in $ea0er !.rren!ies
. the interest rate is *reater than the in)lation rate .rin* epre!iations
4.1 S.ppose ann.al in)lation rates in the U.S. an Me,i!o are e,pe!te to be 23 an 8'3/
respe!ti-el(/ o-er the ne,t se-eral (ears. 4) the !.rrent spot rate )or the Me,i!an peso is
&.''1/ then the best estimate o) the peso5s spot -al.e in 3 (ears is
a. &.''272
b. &.'116'
!. &.''321
. &.''1'2
4.2 4) the e,pe!te in)lation rate is 13 an the real re7.ire ret.rn is 23/ then the Fisher e))e!t
sa(s that the nominal interest rate sho.l be
a. 13
b. 11.33
!. 113
. 23
4.12 4) the a-era*e rate o) in)lation in the $orl rises )rom 13 to 73/ this $ill ten to ma0e
)or$ar e,!han*e rates mo-e to$ar
a. smaller premi.ms or lar*er is!o.nts in relation to the ollar
b. lar*er premi.ms or smaller is!o.nts in relation to the ollar
!. no !han*e on a-era*e
. !an5t tell $hat $ill happen
4.13 8 11'3 real ret.rn in 9ra:il is hi*her than a 113 ollar ret.rn in the U.S.
a. be!a.se arbitra*e opport.nities e,ist
b. $hen the in)lation !ontrols are s.spene in 9ra:il
!. it epens on $hether these are nominal or real ret.rns
. re*arless o) nominal or real ret.rns
4.17 The ire!t spot 7.ote )or the Canaian ollar is &.72 an the 18'-a( )or$ar rate is &.74.
The i))eren!e bet$een the t$o rates is li0el( to mean that
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Fin4328 Moore More Chapter 4 Problems
a. in)lation in the U.S. .rin* the past (ear $as lo$er than in Canaa
b. interest rates are risin* )aster in Canaa than in the U.S.
!. pri!es in Canaa are e,pe!te to rise more rapil( than in the U.S.
. the Canaian ollar5s spot rate is e,pe!te to rise in terms o) the U.S. ollar
4.21 The !.rrent )i-e-(ear ;.ro(en rate is 23 per ann.m (!ompo.ne ann.all(". The )i-e-(ear
;.roollar rate is 8.13. <hat is the implie )or$ar premi.m or is!o.nt o) the (en (o-er
the !.rrent spot rate" )or a )i-e-(ear )or$ar !ontra!t=
a. 4.173 premi.m
b. 18.423 is!o.nt
!. 11.''3 is!o.nt
. 12.323 premi.m
4.31 S.ppose the po.n e-al.es )rom &1.21 at the start o) the (ear to &1.'' at the en o) the
(ear. 4n)lation .rin* the (ear is 113 in ;n*lan an 13 in the U.S. <hat is the real
e-al.ation (-" or real re-al.ation (>" o) the po.n .rin* the (ear=
a. - 12.383
b. - 2'.713
!. > 2.363
. > 1.423
4.34 S.ppose the -al.e o) the Polish :lot( mo-es )rom % 1''' ? &1 at the start o) the (ear to %
1/8'' at the en o) the (ear. 8t the same time/ the Polish pri!e le-el !han*es )rom an ine,
o) 1'' on @an.ar( 1 to 134 on +e!ember 31. U.S. in)lation .rin* the (ear $as 4.13. 4) the
one-(ear interest rate on the :lot( is 443/ $hat $as the real ollar !ost o) borro$in* the
:lot( .rin* the (ear=
a. 17.133
b. 27.813
!. -23.443
. -8.723
4.38 4) the U.S. trae balan!e $ith @apan is e,pe!te to *o )rom a e)i!it this (ear to a s.rpl.s
ne,t (ear/ the )or$ar rate on (en $o.l
a. be less than the spot rate
b. be hi*her than the spot rate
!. e7.al the spot rate
. !o.l be either abo-e or belo$ the spot rate
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Fin4328 Moore More Chapter 4 Problems
Practice Arbitrage Problems
Use the ollo0in& inormation or the ollo0in& t0o problems.
The or0ard %uture' rates, and annuali9ed interest rates belo0 are computed
usin& continuous compoundin&. :ote the or0ard %utures' prices are or $
months in the uture and the exchan&e rates are direct ,uotes rom the US
perspective.
Current !"month #ome
Countr$ #ome Currenc$ Spot%% Futures &nterest 'ate
;anada ! ;anadian !#.34$3 !#.343# ....* %
<apan =en !#.##377. !#.##3*.$ #.)+ %
US ! US 4."** %
Arbitrage Problem ( )Canadian *ollar Arbitrage+
Usin& continuous compoundin&, determine %prove' that an arbitra&e
opportunity exists on the relation bet0een the US dollar and ;anadian
dollar.
Is the ;anadian dollar under or over valued( 0hy((
>iven continuous compoundin&, determine the arbitra&e pro?ts per
million !US that is available %0ithout considerin& transaction costs'. In
e-ect, set up 9ero net cash fo0s at time 9ero and compute the ris@less
positive time " cash fo0 or set up &uaranteed positive time 9ero cash
fo0s and &uaranteed net 9ero cash fo0s at time ".
4ssume you can borro0 and lend at each countryAs stated interest rate.
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Fin4328 Moore More Chapter 4 Problems
Arbitrage Problem 2 ),apanese -en Arbitrage+
Usin& continuous compoundin&, determine %prove' that an arbitra&e
opportunity exists on the relation bet0een the US dollar and <apanese
=en.
Is the <apanese =en under or over valued( 0hy((
>iven continuous compoundin&, determine the arbitra&e pro?ts per
million !US that is available %0ithout considerin& transaction costs'. In
e-ect, set up 9ero net cash fo0s at time 9ero and compute the ris@less
positive time " cash fo0 or set up &uaranteed positive time 9ero cash
fo0s and &uaranteed net 9ero cash fo0s at time ".
4ssume you can borro0 and lend at each countryAs stated interest rate.
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