Consider the simple case of covered interest parity. If the spot market exchange rate is £1 = $2.50,the one-year UK interest rate is 6% and the one-year US interest rate is 4%,then the one-year forward rate must price the pound sterling at

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Covered interest parity implies that the forward exchange rate should adjust to offset the interest rate differential between two countries. Using the formula: Forward Rate = Spot Rate * (1 + Interest Rate Domestic) / (1 + Interest Rate Foreign), we get Forward Rate = 2.50 * (1 + 0.06) / (1 + 0.04) = 2.45.

Consider the Simple Case of Covered Interest Parity