Assume that you have invested $100,000 in British equities.When purchased the stock's price and the exchange rate were £50 and £0.50/$1.00 respectively.At selling time,one year after purchase,they were £45 and £0.60/$1.00.If the investor had sold £50,000 forward at the forward exchange rate of £0.55/$1.00.The dollar rate of return would be

Question

Quizplus · Accepted Answer

The initial investment was:
$100,000/0.50 = £200,000

The final value of the investment was:
£45 x 2,000 = $90,000

The return on the investment in pounds is:
(£90,000 - £200,000) / £200,000 = -0.55 or -55%

The forward contract was to sell £50,000 at the rate of £0.55/$. Therefore, the investor would receive:
£50,000 x £0.55 = $27,500

The total return in dollars is:
$27,500 - $100,000 = -$72,500

The rate of return in dollars is:
(-$72,500 / $100,000) x 100% = -72.5%

However, since the forward contract was to sell pounds, this return should be inverted to get the dollar rate of return on the investment:
-(-72.5%) = 72.5%

Therefore, the dollar rate of return on the investment is 72.5% which is equivalent to a negative rate of return of 17.42% (100% - 72.5%). The answer is B.

Assume That You Have Invested $100,000 in British Equities