Question

Imagine visiting overseas, where you win the local lottery and
can buy any foreign car you wish and will pay full retail price
using the local currency, payable in three months. You have
determined that you have enough cash at your bank in New York City,
which pays 0.35 percent interest per month, compounding monthly, to
pay for the car. There are two ways to pay for your car:

Keep the funds at your bank in the United States and buy a
forward contract to pay for the car.

Buy a certain currency amount spot today and invest the amount
in the foreign bank for three months so that the maturity value
becomes equal to the price of the car.

Analyze the two alternatives presented and make a
recommendation on purchasing the car. How could this purchase
opportunity be considered arbitrage?

Be sure to provide calculations for your recommendation
showing the best alternative.

What are the advantages of the alternative that you have
selected?

Answer #1

1. Arbitrage opportunity arises when premium(forward rate - spot rate) percentage is less than the interest offered by the bank.

Interest percentage 0.35% per month

2. Case 1 - Entered into forward contract arbitrage opportunity arises

Spot rate 60, forward rate 61.2 for 3 months

Forward premium is 2% on spot rate. But interest amount offered is 1.05% for 3 months. In this situation better to take forward contract.

2. Arbitrage opportunity arises when the forward premium is less than the interest amount... Exactly opposite to the above scenario..

Advantage for the option selected is cost would reduce if the funds had not borrowed and Invested in foreign bank.

You want to buy a car, and a local bank will lend you $25,000
to be repaid monthly over 5 years at an APR of 4%. What is the
total amount of interest paid during the first two months?

You want to buy a car, and a local bank will lend you $20,000.
The loan will be paid off over 5 years with equal monthly
payment.
Q: If the nominal interest rate of the loan is quoted as 6% with
semiannual compounding assumption, what is your monthly
payment?

Suppose that you are a foreign
exchange trader for a bank based in New York. You are faced with
the following market rates:
Arbitrage funds
available
$ 5,000,000
Spot exchange rate
(kr/$)
6.1717 (i.e., 1 dollar = 6.1717 krones)
3-month forward rate
(kr/$)
6.1981
U.S. dollar interest
rate
4.000 % per annum
Danish krone interest
rate
4.950 % per annum
Note:
The maximum amount you may invest is $5,000,000 or its
equivalent in Danish krones....

You want to buy a car, and a local bank will lend you $35,000.
The loan would be fully amortized over 5 years (60 months), and the
nominal interest rate would be 15%, with interest paid monthly.
What is the monthly loan payment? Do not round intermediate
calculations. Round your answer to the nearest cent.

You want to buy a car, and a local bank will lend you $35,000.
The loan will be fully amortized over 5 years (60 months), and the
nominal interest rate will be 10% with interest paid monthly. What
will be the monthly loan payment? What will be the loan's EAR? Do
not round intermediate calculations. Round your answer for the
monthly loan payment to the nearest cent and for EAR to two decimal
places.

You want to buy a car, and a local bank will lend you $40,000.
The loan will be fully amortized over 5 years (60 months), and the
nominal interest rate will be 4% with interest paid monthly. What
will be the monthly loan payment? What will be the loan's EAR? Do
not round intermediate calculations. Round your answer for the
monthly loan payment to the nearest cent and for EAR to two decimal
places.

You want to buy a car, and a local bank will lend you $25,000.
The loan will be fully amortized over 5 years (60 months), and the
nominal interest rate will be 9% with interest paid monthly. What
will be the monthly loan payment? Do not round intermediate steps.
Round your answer to the nearest cent. $
What will be the loan's EAR? Do not round intermediate steps.
Round your answer to two decimal places. %

You want to buy a car, and a local bank will lend you $15,000.
The loan will be fully amortized over 5 years (60 months), and the
nominal interest rate will be 11% with interest paid monthly.
What will be the monthly loan payment? Do not round intermediate
steps. Round your answer to the nearest cent.
$
What will be the loan's EAR? Do not round intermediate steps.
Round your answer to two decimal places.
%

You want to buy a car, and a local bank will lend you $10,000.
The loan will be fully amortized over 5 years (60 months), and the
nominal interest rate will be 7% with interest paid monthly.
What will be the monthly loan payment? Do not round intermediate
steps. Round your answer to the nearest cent.
What will be the loan's EAR? Do not round intermediate steps.
Round your answer to two decimal places.

You are interested in a new Ford Taurus. After visiting your
Ford dealer, doing your research on the best leases available, you
have three options. (i) Purchase the car for cash and receive a
$1,600 cash rebate from Dealer A. The price of the car is $16,000.
(ii) Lease the car from Dealer B. Under this option, you pay the
dealer $450 now and $200 a month for each of the next 36 months
(the first $200 payment occurs 1...

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