Question

Lone Star Inc. will receive 75 million Australian dollars (AUD) tomorrow. Current FX rate = $0.62/Euro. Standard deviation of daily percentage change of AUD is 0.82 % over the last 250 days. Assume normal distribution, and the expected % change in Euro is 0.3%.

A) What is the maximum one-day loss (in % and in dollar amount) with 99% confidence level?

B) What is the maximum one-day loss (in % and in dollar amount) with 95% confidence level?

Answer 1

The question is based on the value at risk theory in finance.

Z normal distribution curve value for 95% = -1.65

Z normal distribution curve value for 99% = -2.33

Value at risk = Z value* standard deviation

Hence, for 95% interval = -1.65*0.82% = 1.353%

for 95% interval = -2.33*0.82% = 1.91%

Maximum loss that can occur for 95% interval = 75 Million * 1.353% = 1.014 Million

Maximum loss that can occur for 99% interval = 75 Million * 1.91% = 1.43 Million