Suppose the 1-year risk-free rate of return in Canada is 4%, and the 1-year risk-free rate of return in Britain is 7%.The current exchange rate is 1 pound = Cad.$1.65.A 1-year future exchange rate of __________ for the pound would make a Canadian investor indifferent between investing in the Canadian security and investing in the British security.

Question

Quizplus · Accepted Answer

To make a Canadian investor indifferent between investing in Canada and Britain, the future exchange rate should offset the interest rate differential. The formula to calculate the future exchange rate that would make an investor indifferent is: Current Exchange Rate * (1 + Foreign Interest Rate) / (1 + Domestic Interest Rate). Plugging in the given values: 1.65 * (1 + 0.07) / (1 + 0.04) = 1.65 * 1.07 / 1.04 ≈ 1.6037.

Suppose the 1-Year Risk-Free Rate of Return in Canada Is