The current spot exchange rate is $1.55/€ and the three-month forward rate is $1.50/€.Based on your analysis of the exchange rate,you are confident that the spot exchange rate will be $1.62/€ in three months.Assume that you would like to buy or sell €1,000,000.What actions do you need to take to speculate in the forward market? What is the expected dollar profit from speculation?

Question

Quizplus · Accepted Answer

To speculate in the forward market, you would need to buy €1,000,000 forward at the current three-month forward rate of $1.50/€. This would lock in the exchange rate and protect against unfavorable movements in the spot rate. If the spot rate does increase to $1.62/€ in three months as expected, then you can sell the €1,000,000 at the higher spot rate and earn a profit of $120,000 ($1.62/€ - $1.50/€ x €1,000,000). Option B is the best choice as it allows you to benefit from the expected increase in the spot exchange rate.

The Current Spot Exchange Rate Is $1