Question

Michelle had planned to invest $5,000 in either an American certificate of deposit (CD) or a Japanese one for a year. When she made the decision in January 2008, she knew that the spot yen-dollar exchange rate E¥/$ = 103.38. Suppose the interest rate on a Japanese CD was 0.09 percent, while that on an American CD was 7 percent. Ex-post, we know that E¥/$ was 93.6 in January 2009. Using this as the expected interest rate, calculate the return Michelle would earn if she invested in the Japanese CD

Answer 1

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Question:

Answer:

AS per question:

Investable Amount in 2008 =  $5,000

Spot yen-dollar exchange rate in January 2008 E¥/$ = 103.38.

Interest rate on a Japanese CD = 0.09%

Interest rate on a American CD = 7%

Michelle would earn if she invested in the Japanese CD =

Total Investable Amount in E¥ =  5,000 * 103.38 = E¥ 5,16,900

Michelle would earn if invested in the Japanese CD =

= E¥ 5,16,900 + E¥ 5,16,900*0.09%

= E¥ 5,16,900 + E¥465.21 = E¥5,17,365.21

Total earning ( Principle + interest) = E¥5,17,365.21

In 2009 the exchange rate  E¥/$ was 93.6 so, when she will convert her total earning in $ in 2009 then she will get-

E¥5,17,365.21/93.6 = $5527.40

So, total gain or profit = 5527.40 - $5000 = $527.40

Return = [(Final Amount - Initial Investment)/Initial Investment)] * 100

=  [($5527.40 -$5000)/5000] * 100

= (527.40/5000) *100

= 0.10548 *100 = 10.54%

Return = 10.54%

Thank You