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 41.3 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

If we assume the bid ask rates as deposit and borrow rates then if we borrow 2 million euro at 4% annual rate, after three months total amount due will be equal to 2.02 million euros. This 2 million euros will be now converted to THB at current spot rate which is 40.9. Total amount in THB = 81.8 million. This amount will be deposited at an annual rate of 20% for 3 months. Total amount received at the end of 3 months = 85.89 millionTHB. Amount in euros = 85.89/41.3 = 2.08 million euros. Total profit = 2.08 - 2.02 = 0.06 million euros or 60,000 euros