Question

1. Suppose your company imports computer chips from Thailand. You have just placed an order for 30,000 chips at 4,000 Thailand Baht (THB) each. Payment is due in one year when it arrives in the USA. You can sell the chips to intel for $120 each. The current Thailand Baht spot rate is: THB 33.5/$

(i)) The one year forward rate is 31 BHT /$ What will be your profit at this forward rate. What is the break-even exchange rate?

(ii) Given the interest rate in Thailand per year is 8% and the Interest rate in the US is 3 %, what do you think will be the expected exchange rate in one year when payment is due? Given this answer, what will you do to cover your exchange rate risk?

(iii) Suppose the inflation rate in Thailand over the next 3 years will be 6% per year and the US inflation rate will be 4% per year. Based on the relative PPP, what will be the exchange rate in three years?

2. Suppose the exchange rate for Singapore (dollar (SGD) is currently SGD1.36 per USD. If the interest rate in the US is 3%, and the interest rate in Singapore is 6%, then what must be the forward rate be to prevent covered interest rate arbitrage?

Answer 1

Question 1

(i)Cost of chips (in USD) = (30,000 * 4000)/31 = $3,870,967.74

Proceeds from sale of chips to Intel =120*30000 = $3,600,000

Net Profit = $3,600,000-$3,870,967.74 = -$270,967.74 (Negative amount indicates an actual loss)

Break even exchange rate = 30,000*4000/x = 120*30000 = 33.3333

Breakeven exchange rate = 33.3333 BHT/$

(ii) Expected forward rate = F = S * ((1 + i_f) / (1 + i_d))

Expected forward rate F = 33.5*(1.08/1.03) = 35.1262 BHT/$

(iii) Expected forward rate in this case = F = S * ((1 + i_f) / (1 + i_d))

Expected exchange rate = F = 33.5*(1.06/1.04) = 34.1442 BHT/$

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