S.-based company, Stewart, Inc., arranged a 2-year, $1, 000, 000 loan to fund a project in Mexico.The loan is denominated in Mexican pesos, carries a 10.0% nominal rate, and requires equal semiannual payments.The exchange rate at the time of the loan was 5.75 pesos per dollar, but it dropped to 5.10 pesos per dollar before the first payment came due.The loan was not hedged in the foreign exchange market.Thus, Stewart must convert U.S.funds to Mexican pesos to make its payments.If the exchange rate remains at 5.10 pesos per dollar through the end of the loan period, what effective interest rate will Stewart end up paying on the loan?

Question

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Financial calculator solution:
Calculate the required payments in Mexican pesos:
Inputs: N = 4; I/YR = 5; PV = -5, 750, 000; FV = 0.Output: PMT = 1, 621, 568 MP.1, 621, 568 Mexican pesos are needed on each payment date.At the initial exchange rate of 5.75 pesos/US$, the payments are approximately US $282, 012.Payment in U.S.dollars after conversion = 1, 621, 568 pesos/(5.75 FF/US$)= $282, 011.83.However, at an exchange rate of 5.10 pesos/US$, the cost to the firm in US$ increases to 1, 621, 568/5.10 = $317, 954.51 » $317, 955.Calculate nominal annual interest rate on loan:
Inputs: N = 4; PV = -1, 000, 000; PMT = 317, 955; FV = 0.Output: I/YR = 10.36% semiannual rate.Annual nominal rate = 10.36(2)= 20.72%.Calculate effective annual rate:
Inputs: P/YR = 2; NOM% = 20.72.Output: EFF% = 21.79%.

S-Based Company, Stewart, Inc