Question 1

In the spot market, 1 U.S. dollar equals 1.60 Canadian dollars. 6-month Canadian securities have an annualized return of 6 percent (and therefore have a 6-month periodic return equal to 3 percent). 6-month U.S. securities have an annualized return of 6.5 percent and a periodic return of 3.25 percent. If interest rate parity holds, what is the U.S. dollar-Canadian dollar exchange rate in the 180-day forward market?

Accepted Answer

Interest rate parity implies that the forward exchange rate should offset the interest rate differential between two countries. Using the formula for forward rate: Forward Rate = Spot Rate * (1 + Interest Rate Domestic) / (1 + Interest Rate Foreign), we get 1.60 * (1 + 0.0325) / (1 + 0.03) = 1.5961 Canadian dollars.

Question 2

90-day investments in Britain have a 6 percent annualized return and a 1.5 percent quarterly (90-day) return. In the U.S., 90-day investments of similar risk have a 4 percent annualized return and a 1 percent quarterly (90-day) return. In the 90-day forward market, 1 British pound equals $1.65. If interest rate parity holds, what is the spot exchange rate?

Accepted Answer

According to interest rate parity, the forward exchange rate should equal the spot exchange rate times one plus the home currency interest rate divided by one plus the foreign currency interest rate. 
Solving for the spot exchange rate: 
$1.65/£ * (1 + 0.06/4) / (1 + 0.04/4) = $1.6582/£. 
Therefore, the answer is A.

Question 3

A box of candy costs 28.80 Swiss francs in Switzerland and $20 in the United States. Assuming that purchasing power parity (PPP) holds, what is the current exchange rate?

Accepted Answer

The answer of A box of candy costs 28.80 Swiss...

Question 4

Suppose a U.S. firm buys $200,000 worth of television tubes from a Mexican manufacturer for delivery in 60 days with payment to be made in 90 days (30 days after the goods are received). The rising U.S. deficit has caused the dollar to depreciate against the peso recently. The current exchange rate is 5.50 pesos per U.S. dollar. The 90-day forward rate is 5.45 pesos/dollar. The firm goes into the forward market today and buys enough Mexican pesos at the 90-day forward rate to completely cover its trade obligation. Assume the spot rate in 90 days is 5.30 Mexican pesos per U.S. dollar. How much in U.S. dollars did the firm save by eliminating its foreign exchange currency risk with its forward market hedge?

Accepted Answer

The answer of Suppose a U.S. firm buys $200,000 worth...

Question 5

A product sells for $750 in the United States. The exchange rate is such that $1 equals 1.65 Swiss francs. If purchasing power parity (PPP) holds, what is the price of the product in Switzerland?

Accepted Answer

If PPP holds, the price in Switzerland should be $750 * 1.65 = 1,237.50 Swiss francs.

Question 6

Trent Transport, a U.S. based company, is considering expanding its operations into a foreign country. The required investment at Time = 0 is $10 million. The firm forecasts total cash inflows of $4 million per year for 2 years, $6 million for the next two years, and then a possible terminal value of $8 million. In addition, due to political risk factors, Trent believes that there is a 50 percent chance that the gross terminal value will be only $2 million and that there is a 50 percent chance that it will be $8 million. However, the government of the host country will block 20 percent of all cash flows. Thus, cash flows that can be repatriated are 80 percent of those projected. Trent's cost of capital is 15 percent, but it adds one percentage point to all foreign projects to account for exchange rate risk. Under these conditions, what is the project's NPV?

Accepted Answer

The NPV is calculated by discounting the repatriated cash flows at the adjusted cost of capital (16%) and subtracting the initial investment. The expected terminal value is calculated as the average of the two possible outcomes ($2 million and $8 million), which is $5 million. The repatriated cash flows are 80% of the forecasted cash flows.

Question 7

Hockey skates sell in Canada for 105 Canadian dollars. Currently, 1 Canadian dollar equals 0.71 U.S. dollars. If purchasing power parity (PPP) holds, what is the price of hockey skates in the United States?

Accepted Answer

Purchasing power parity implies that the price of goods should be the same in different countries when expressed in a common currency. Therefore, the price in the U.S. should be 105 CAD * 0.71 USD/CAD = 74.55 USD.

Question 8

Swenser Corporation arranged a two-year, $1,000,000 loan to fund a foreign project. The loan is denominated in Mexican pesos, carries a 10 percent nominal rate, and requires equal semiannual payments. The exchange rate at the time of the loan was 5.75 pesos per dollar but immediately dropped to 5.10 (pesos per dollars) before the first payment came due. The loan carried no exchange rate protection and was not hedged by Swenser in the foreign exchange market. Thus, Swenser must convert U.S. funds to Mexican pesos to make its payments. If the exchange rate remains at 5.10 pesos per dollar through the end of the loan period, what effective interest rate will Swenser end up paying on the foreign loan?

Accepted Answer

The answer of Swenser Corporation arranged a two-year, $1,000,000 loan...

Question 9

Sunware Corporation, a U.S. based importer, makes a purchase of crystal glassware from a firm in Switzerland for 39,960 Swiss francs or $24,000, at the spot rate of 1.665 francs per dollar. The terms of the purchase are net 90 days, and the U.S. firm wants to cover this trade payable with a forward market hedge to eliminate its exchange rate risk. Suppose the firm completes a forward hedge at the 90-day forward rate of 1.682 francs. If the spot rate in 90 days is actually 1.638 francs, how much will the U.S. firm have saved in U.S. dollars by hedging its exchange rate exposure?

Accepted Answer

The answer of Sunware Corporation, a U.S. based importer, makes...

Question 10

Six months ago, a Swiss investor bought a 6-month U.S. Treasury bill at a price of $9,708.74, with a maturity value of $10,000. The exchange rate at that time was 1.420 Swiss francs per dollar. Today, at maturity, the exchange rate is 1.324 Swiss francs per dollar. What is the annualized rate of return to the Swiss investor?

Accepted Answer

The Swiss investor bought the Treasury bill for $9,708.74, which equals 9,708.74 x 1.420 = 13,788.13 Swiss francs (CHF). Today, at maturity, the Swiss investor will receive $10,000, which equals 10,000 x 1.324 = 13,240 CHF. Therefore, the Swiss investor has lost 13,788.13 - 13,240 = 548.13 CHF.

To calculate the annualized rate of return, we need to use the formula:

(Ending value / Beginning value)^(1 / # of years) - 1

In this case, the beginning value is 13,788.13 CHF and the ending value is 13,240 CHF. The time period is 6 months, or 0.5 years.

Annualized rate of return = (13,240 / 13,788.13)^(1 / 0.5) - 1 = -0.0792 or -7.92%

Therefore, the best choice is A, which represents a negative annualized rate of return of 7.92%.

Quiz 27: Multinational Financial Management

A box of candy costs 28.80 Swiss francs in Switzerland and $20 in the United States. Assuming that purchasing power parity (PPP) holds, what is the current exchange rate?

A product sells for $750 in the United States. The exchange rate is such that $1 equals 1.65 Swiss francs. If purchasing power parity (PPP) holds, what is the price of the product in Switzerland?

Hockey skates sell in Canada for 105 Canadian dollars. Currently, 1 Canadian dollar equals 0.71 U.S. dollars. If purchasing power parity (PPP) holds, what is the price of hockey skates in the United States?