Question

1. Assume a speculator anticipates that the spot rate of franc in 90-days will be lower than today’s 90-days forward arte of the franc, $0.5 = 1 franc.

1. How can this speculator use $1 million to speculate in the forward market?
2. What occurs if the franc’s spot rate in 90-days is $0.40? $0.60? $0.50?

Answer 1

Solution :-

(a) Todays Rate 1 Franc = $0.5

Now as Given in Question that it is anticipated that spot rate of franc in 90-days will be lower than today’s 90-days forward arte of the franc

So the Speculator can use $1 million as

he makes a contract of $1 million / $0.50 = 2 million Franc

Now he can sell francs on the forward market today for delivery in 3 months at $0.50=1 franc and he buy franc on the spot market in 3 months

(b)

If the Franc's Spot rate in 90 days is $0.40

then he can earn profit of $0.10 per Franc as he can sell at $0.50 and Buy at $0.40

If the Franc's Spot rate in 90 days is $0.60

then he have a loss of $0.10 per Franc as he can sell at $0.50 and Buy at $0.60

If the Franc's Spot rate in 90 days is $0.60

Then there is no profit or no loss situation as The Buying rate and selling rate are same.