Q1: It can occur whe the spot rate of a given currency varies among locations.

Especially, the ask rate at one location must be lower than the bid rate at another location. Q2: Yes, One could purchase NZ$ at Yardley Bank for .40 and sell them to Beal Bank for .401. With $1milion available 2.5 milion NZDollars could be purchased at Yardley Bank. These NZDollars could then be sold to Beal Bank for $1,002,500 giving profit of $2,500. Q3: Triangular arbitrage is plausible when actual cross exchange rate of the two currencies differ from what is should be the appropriate cross is determined given the values of two currencies in respect to some other currency Q4: Yes, cross exchange rate should be 1 $CA =3 $NZ, so so actual value of the $CA in terms of $NZ is more than what is should be. You could obtain CA$ with US$, and then sell the CA$ for NZ$ and then exchange NZ$ for US$. With 1 million this strategy will generate $1,006,667, so profit of $6,667 Q5: Covered interest arbitrage involves investing in foreign currency which is covered by forward contract to sell that currency when the short-term investment matures. It is plausible when forward premium does not reflect the differential interest rate between the countries based on interest parity formula. If transaction costs are involved, excess profit from covered interest arbitrage offsets the other considerations making it plausible. Q6: 1,000,000/.80=C$1,250,000 X (1.04) =C$1,200,000X$.79 Yield= ($1,027,000-1,000,000)/$1,000,000=2.7% , exceeds yield in US over 90 day period. C$ spot rate should rise, and its forward rate should fall; in assition the C$ interest rate may fall and the US interest rate my rise. Q7: Using MXP 1,000,000 as beginning investment.

MXP 1,000,000 * $0.100=$100,000*1.05 =$105,000/$0.098 =MXP1,071,429 Yield generated by Mexican Investors: Yield= (MXP1,071,429-MXP1,000,000)/MXP1,000,000 =MXP71,429/MXP1,000,000 =0.071 or 7.1% them. Q8: The expectations of a weak US economy resulted in a decline of short term interest rates. The U.S interest rate was reduced while foreign interest rates were not. As a results the forward premium on foreign currencies increased. Q9: It is stated by interest rate parity that the differential in interest rates between the two countries should be reflected by forward rate premium or discount of a currency. In case of non-existence of interest rate parity, occurrence of covered interest arbitrage is possible (without transactions costs and foreign risk), which should cause market forces to move back toward conditions which reflect interest rate parity. Q 10: These currencies have higher interest rates, which cause forward rates to have discounts as a result of interest rate parity. <= this is grater than domestic yield of 6% so it is worthwhile for

Case Problems: 1) Locational arbitrage is possible: a. Buy Thai bath from Minzu Bank (100,000/0.0227) = 4,405,286.34 b. Sell Thai bath to Sobat Bank (THB4,405,286.34x $0.0228)= 100,440.53 c. Dollar profit (100,440.53-100,000)=440.53 2) Triangular arbitrage in possible: a. Exchange dollars for Thai bath (100,000/0.0227)=4,405,286.34 b. Convert the Thai bath into Japanese yen (THB4,405,286.43X2.69)=11,850,220.25 c. Convert the Japanese yen into dollars (11,850,220.26X0.0085)=100,726.87 d. Dollar profit (100,726.87-100,000)= 726.87 3) Covered interest arbitrage:

a. On day 1, convert U.S dollard to Thai bath and set up 90 days deposit account at a Thai bank ($100,000/$0.0227) = 4,405,286.34 b. In 90 days, the Thai deposit will mature to THB4,405,286.34X1.0375 which is the amount to be sold forward: 4,570,484.58 c. In 90 days, convert the Thai bath into U.S dollars at the agreed-upon rate (THB4,570,484.58X$0.0225)=102.835.90 d. Dollar amount available on 90 day US deposit (100,000X1.02)=102,000.00 e. Dollar profit over and above the dollar amount available on a 90 day US deposit (102,835.90-100,000) = 2,835.90 4) They are likely to disappear because of market forces. Due to the actions taken by arbitrageurs, supply and demand for the foreign currency adjust until the mispricing disappear. Covered interest arbitrage involving the immediate purchase and subsequent sale of Thai bath would place upward pressure on the spot rate of the Thai bath and downward pressure on the Thai bath forward rate until covered interest arbitrage is no longer possible. At that point, interest rate parity exist, and the interest rate differential between the two countreis is exactly offset by the forward premium or discount