Question

You are looking at the markets for THB (Thai bahts) and EUR. You observe that the bid/ask interest rates in Thailand are 20%/22%, and the bid/ask interest rates on the euro are 2%/4%. The spot exchange rate is 40.9 THB/EUR, and you expect that in the next 3 months (90 days) the exchange rate will not move much, moving to 42.1 THB/EUR. Your borrowing capacity is 2 million EUR and 50 million THB. Based on this information, you decide to borrow EUR at the relatively low rates, and invest in the higher THB rate. What will be your profit as measured in EUR?

Answer 1

Step 1

Borrow EUR 2 million at 4% (Ask rate) for 3 months.

Step 2

Convert the above amount into THB at 40.3.

Amount received in THB = 2 * 40.9 = THB 81.8 millions

Step 3

Invest the above amount at 20% in THB.

Amount receivable after 3 months = 81.8 + (81.8*0.2/4) = THB 85.89 millions

Step 4

Convert the above amount back into Euros at 42.1.

Amount in Euros = 85.89 / 42.1 = 2.040143

Amount payable in Euros for the loan = 2 + (2*0.04/4) = EUR 2.02 millions

Hence, profit = 2.040143 – 2.02 = 0.020143 million euros