Consider an MNC that is exposed to the Taiwan dollar (TWD) and the Egyptian pound (EGP). 25% of the MNC's funds are Taiwan dollars and 75% are pounds. The standard deviation of exchange movements is 7% for Taiwan dollars and 5% for pounds. The correlation coefficient between movements in the value of the Taiwan dollar and the pound is .7. Based on this information, the standard deviation of this two-currency portfolio is approximately:
A) 5.13%.
B) 2.63%.
C) 4.33%.
D) 5.55%.

Question

Quizplus · Accepted Answer

The standard deviation of a two-currency portfolio can be calculated using the formula: √(w₁²σ₁² + w₂²σ₂² + 2w₁w₂σ₁σ₂ρ), where w₁ and w₂ are the weights, σ₁ and σ₂ are the standard deviations, and ρ is the correlation coefficient. Plugging in the values: √(0.25² * 0.07² + 0.75² * 0.05² + 2 * 0.25 * 0.75 * 0.07 * 0.05 * 0.7) ≈ 5.13%.

Consider an MNC That Is Exposed to the Taiwan Dollar