Question

Covered Interest Arbitrage. Assume the following information: • British pound spot rate = $1.65. • British pound one-year forward rate = $1.65 • British one-year interest rate = 12 %. • U.S. one-year interest rate = 10 %. Explain how U.S. investors could use covered interest arbitrage to lock in a higher yield than 9 percent. What would be their yield? Explain how the spot and forward rates of the pound would change as covered interest arbitrage occurs.

Answer #1

As per Interest rate parity:

As per Interest rate parity the difference in spot fate and forward rate exits due to differences in interest rate between two countries.

F/S = (1+ra)/(1+rb)

F= forward rate

S = spot rate.

ra = interest rate of price currency.

rb= interest rate of base currency.

If the above equation does not hold good then there is a chance of Arbitrage.

Spot Pound rate Rises,

Forward Pound rate declines.

ANSWER IN THE IMAGE. FEEL FREE TO ASK ANY DOUBTS. THUMBS UP PLEASE.

Consider the following information available in the
Diamond Bank:
Spot Rate for the
British Pound Sterling
$1.60
90 – day forward
rate of the pound
$1.59
90 – day UK
interest rate
4%
90 – day U.S.
interest rate
3%
(a)Given this information, would it be a prudent strategy to engage
in covered interest arbitrage? Explain
(b)If covered interest arbitrage is profitable how much profit
would an investor earn if he/she uses $1,000,000?
(c)Briefly discuss the realignment process that will...

Question 1
(a) Assume the following information:
Spot rate of £ = $1.60
180-day forward rate of £ = $1.59
180-day British interest rate = 4%
180-day U.S. interest rate = 3%
Based on this information, is covered interest arbitrage by U.S.
investors feasible (assuming that U.S. investors use their own
funds ($1 million))? Explain.
(b) Covered Interest Arbitrage in Both Directions. The one-year
interest rate in New Zealand is 6 percent. The one-year U.S.
interest rate is 10 percent....

Covered Interest Arbitrage. Assume the following
information:
Quoted
Price
Spot rate of Canadian dollar
$.90
90‑day forward rate of Canadian
dollar
$.88
90‑day Canadian interest rate
4.4%
90‑day U.S. interest
rate
1.6%
Given this information, what would be the yield
(percentage return) to a U.S. investor who used covered interest
arbitrage? (Assume the investor invests $1,000,000.) What market
forces would occur to eliminate any further possibilities of
covered interest arbitrage?

Assume the following information:
Spot rate of £ = $1.60
180-day forward rate of £ = $1.59
180-day British interest rate = 4%
180-day U.S. interest rate = 3%
Based on this information, is covered interest arbitrage by U.S.
investors feasible (assuming that U.S. investors use their own
funds ($1 million))? Explain.

The current Dollar-Pound exchange rate is 1.60 dollars per
British Pound. The U.S. and British risk-free interest rates
(annualized, continuously compounded) are 5% and 7.5%,
respectively. Answer the following questions.
A. What is the no arbitrage forward price of the British Pound
for a 6-month forward contract?
B. Suppose the actual forward price is 1.65 dollars per British
Pound. Illustrate the arbitrage opportunity.

Assume the following information:
Spot rate of £ = $1.60
180-day forward rate of £ =
$1.56
180-day British interest rate =
4%
180-day U.S. interest rate= 3%
(a) Based on this
information, is covered interest arbitrage by U.S. investors
feasible (assuming that U.S. investors use their own funds)?
Explain.
(b) Does interest
rate parity exist? Explain.
(Please provide detailed
answers)

Assume the spot rate for the British pound currently is
$1.5701/£. Also assume the one-year forward rate is $1.5574/£. A
risk-free asset in the U.S. is currently earning 3.2 percent
interest rate. If interest rate parity holds, what rate can you
earn on a one-year risk-free British security?
A) 2.37 percent
B) 3.67 percent
C) 4.04 percent
D) 4.57 percent
E) 4.92 percent

(2 pts) Percentage Appreciation. Assume the spot rate
of the British pound is $1.242. The expected spot rate one year
from now is assumed to be $1.278. What percentage appreciation does
this reflect?
(3 pts) Interest Rate Effects on Exchange Rates. Assume
U.S. interest rates fall relative to British interest rates. Other
things being equal, how should this affect the (a) U.S. demand for
British pounds, (b) supply of pounds for sale, and (c) equilibrium
value of the pound?...

How much arbitrage profit can you obtain with the following
information?
Hint. Covered interest arbitrage
Spot exchange rate: 1.1 Euro / dollar
Forward exchange rate: 1 Euro / dollar
Risk free rate in U.S: 3%
Risk free rate in Europe: 2%

Assume the following information:
You have $1,500,000 to invest.
Current spot rate of pound = $1.61.
90-day forward rate of pound = $1.57.
3-month deposit rate in U.S. = 2.39%.
3-month deposit rate in U.K. = 5%.
Does the covered interest parity hold? If you use covered
interest arbitrage for a 90-day investment, what will be the amount
of U.S. dollars you will have after 90 days?

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