Question

MSU Bank believes the New Zealand dollar will appreciate over the next 6 months from $.62/NZ$ to $.65/NZ$. The following 6-month interest rates apply: (the rates are periodic rates so you do not need to adjust them at all – we do not need to multiply by 180/360 or anything like that) Currency Lending Rate Borrowing Rate Dollars 1.75% 3.10% New Zealand dollar (NZ$) 2.25% 3.35% MSU Bank has the capacity to borrow either NZ$12 million or $10 million. If MSU Bank’s forecast if correct, what will its U.S. dollar profit be from speculation over the 6-month period?

Answer 1

Solution:

1. Borrow $10 million.

2. Convert to NZ$:

$10,000,000/$.62 = NZ$ 16,129,032.26

3. Invest the NZ$ at an annualized rate of 2.25% over five days.

[1 + 2.25% (180/360)] * NZ$,16,129,032.26

= NZ$ 16,310,484

4. Convert the NZ$ back to dollars: $ 16,310,484/$.65 = NZ$25,093,052

5. Repay the dollars borrowed.

The repayment amount is: [1 + 3.10% (180/360)]*$10,000,000

= [1.00155]* $10,000,000

= $10,155,000

6.After repaying the loan, the remaining dollar profit is: $25,093,052- $10,155,000 = $14,938,052