In 1993,Ford simultaneously borrows Spanish pesetas at 13% and invests dollars at 10%,both for one year.At the time Ford enters into these transactions,the spot rate for the peseta is $0.095.If the spot rate is Ptas.1 = $0.087 in one year,what is the cost to Ford of this money market hedge?
A)2.0%
B)3.8%
C)1.3%
D)Ford has a 6.5% gain,not a cost

Question

Quizplus · Accepted Answer

Ford's transactions involve borrowing in pesetas and investing in dollars. The depreciation of the peseta from $0.095 to $0.087 increases the value of Ford's dollar investment relative to its peseta loan. The difference in interest rates (13% - 10% = 3%) is offset by the currency movement, resulting in a net gain rather than a cost. The specific calculation to arrive at the 6.5% gain involves considering both the interest rate differential and the change in exchange rates, showing that Ford benefits from the depreciation of the peseta against the dollar.

In 1993,Ford Simultaneously Borrows Spanish Pesetas at 13% and Invests