Question 1

Interest rate parity theory states that the forward premium or discount should be equal and opposite in sign to the difference in the national interest rates for securities of the same maturity.

Accepted Answer

This statement accurately describes the interest rate parity theory. The theory asserts that the difference in interest rates between two currencies should be reflected in the forward exchange rate between those currencies. If the interest rate differential is large, there should be a correspondingly large forward premium or discount to offset the expected gain or loss from investing in one currency versus the other.

Question 2

One theory that is useful states that the forward premium or discount should be equal and opposite in sign to the difference in the national interest rates for securities of the same maturity.This theory is known as

Accepted Answer

The theory described in the question is known as the interest rate parity theory, which states that the forward premium or discount is equal to the difference in national interest rates for securities of the same maturity.

Question 3

Describe exchange rate risk in direct foreign investment.

Accepted Answer

The answer of Describe exchange rate risk in direct foreign...

Question 4

If the exchange rate quotes in two different countries were out of line with each other,an enterprising trader could make a profit by buying in the market where the currency was cheaper and simultaneously selling it in the market where the currency was more expensive.Such a person would be known as a(n)

Accepted Answer

This person is engaging in an arbitrage strategy, which involves taking advantage of price differences in different markets. A spot trader is involved in immediate transactions, while a cross trader typically trades in two or more currency pairs at the same time. "Capitalist" is not a professional term used in finance or trading.

Question 5

The current direct quote in New York is .01075 dollars per yen.Suppose the current direct quote in Tokyo is 91 yen per dollar.What is the appropriate indirect quote in New York? What will arbitrageurs do to eliminate the differential rates in these markets?

Accepted Answer

The answer of The current direct quote in New York...

Question 6

What is a forward exchange rate?

Accepted Answer

The answer of What is a forward exchange rate?...

Question 7

Money-market hedges and forward-market hedges rely on the

Accepted Answer

Money-market hedges and forward-market hedges are both based on the interest rate parity theory, which states that the difference in interest rates between two currencies will determine the forward exchange rate between those currencies. This allows businesses to use these hedges to lock in a future exchange rate and protect against currency fluctuations.

Question 8

Who is an arbitrageur? How does an arbitrageur make money?

Accepted Answer

The answer of Who is an arbitrageur? How does an...

Question 9

Suppose the 360-day forward exchange rate is 1.657 dollars per British pound,and the current spot rate is 1.625 dollars per British pound.If the 360-day interest rate in the United States is 5% and the 360-day interest rate in Great Britain is 3%,is the market in equilibrium according to the interest rate parity theory?

Accepted Answer

Interest rate parity theory states that the difference in the nominal interest rates offered in two countries is equal to the difference between the forward exchange rate and the spot exchange rate. The forward premium/discount adjusts to offset the interest rate differential, preventing arbitrage. In this case, the forward rate is higher than the spot rate, reflecting the higher US interest rate compared to the UK, thus maintaining equilibrium.

Question 10

A forward exchange contract

Accepted Answer

A forward exchange contract is an agreement between two parties to buy or sell a certain amount of currency at a specified future date at a predetermined exchange rate. It requires the delivery of one currency for a specified amount of another currency on a specified future date, making option C the most suitable answer. Option A refers to an option contract, while option B describes a daily settlement variation margin system used in futures contracts. Option D describes a spot transaction, which does not involve a specified future date.

Question 11

The spot exchange rate in New York is 1.600 dollars per British pound.The 360-day forward exchange rate is 1.680 dollars per pound.The one-year interest rate in Great Britain is 2% while the one-year interest rate in the United States is 4%.
a.If the interest rate in Great Britain remains at 2%,what should the interest rate be in the United States according to the interest rate parity theory?
b.An American investor with $40,000 decides to take advantage of the differences in rates.Ignoring transaction costs,how can the American investor exploit the disequilibrium? Compare the amount of money the investor will have at the end of the year if he or she invests in one-year U.S.securities versus one-year British securities.

Accepted Answer

The answer of The spot exchange rate in New York...

Question 12

WSM Wine Importers,Inc.purchased 75,000 cases of French wine at a cost of 6,000,000 euros.If the current exchange rate is 0.7576 euros to the U.S.dollar,what is the purchase price of the wine in U.S.dollars?

Accepted Answer

To find the purchase price in U.S. dollars, divide the cost in euros by the exchange rate: $6,000,000 / 0.7576 = $7,919,747.

Question 13

What is arbitrage? Assume that the dollar is quoted $1 = £0.625 in New York and the pound sterling is quoted as £1 = $1.63 in London.Is there an arbitrage opportunity? If so,what would an astute trader do? What will happen to the quotes as trades are made at current prices?

Accepted Answer

The answer of What is arbitrage? Assume that the dollar...

Question 14

What is a spot transaction? What is a direct quote? An indirect quote?

Accepted Answer

The answer of What is a spot transaction? What is...

Question 15

Interest Rate Parity theory states that interest rates must be the same in all countries using floating exchange rates or else international markets will not be in equilibrium.

Accepted Answer

Interest Rate Parity theory actually states that the difference in interest rates between two countries is equal to the expected change in exchange rates between those countries' currencies. It does not imply that interest rates must be the same across countries.

Question 16

Assume that the British pound is worth 1.6242 U.S.dollars.If a new Jaguar costs $138,000,what is the cost in British pounds?

Accepted Answer

To find the cost in British pounds, we need to convert $138,000 to pounds. We can do this by multiplying $138,000 by the exchange rate of pounds per dollar:

$138,000 x 1 pound/1.6242 dollars = £84,964.88

Rounding to the nearest pound gives us the answer of £84,965, so the correct choice is B.

Question 17

Except for the effects of small transaction costs,the forward premium or discount should be equal and opposite in size to the difference in the national interest rates for securities of the same maturity.What is the name of this theory?

Accepted Answer

This theory is known as interest rate parity theory, which suggests that the forward exchange rate should adjust so that the interest rate differential between two countries is equal to the differential between the forward exchange rate and the spot exchange rate.

Question 18

You purchased 3,000,000 Indian rupees in London at an exchange rate of 54.86 to the dollar and simultaneously sold the rupees in Bahrain at an exchange rate of 55.12 to the dollar.What is the name for such a transaction?

Accepted Answer

This is an example of arbitrage, which involves taking advantage of price differences in different markets for the same asset. In this case, the individual purchased Indian rupees at a lower exchange rate in London and then sold them at a higher exchange rate in Bahrain, profiting from the difference.

Question 19

Why do currency exchange rates throughout the world trade within a very narrow range on any given day?

Accepted Answer

Currency exchange rates throughout the world trade within a very narrow range on any given day because of arbitrage. This refers to traders taking advantage of price differences in different markets to make a profit. As soon as there is a variance in the exchange rate between two countries, traders will begin to buy one currency and sell the other until the rates equalize. This reduces the margins for profit and ultimately leads to a narrowing of the range.

Question 20

What does the law of one price say?

Accepted Answer

The answer of What does the law of one price...

Quiz 16: International Business Finance