The USD-EUR spot exchange rate is $1.50/€. If the two-year interest rate (in continuously-compounded and annualized terms) is 3% for EUR and 2% for USD, what are the two-year forward points ($/€) expressed as usual in basis points?
A) Zero
B) 100
C) 300
D) Cannot be calculated from the given data.

Question

Quizplus · Accepted Answer

The formula for two-year forward points is:
Forward Points = (Interest Rate Differential) * (Forward Period / Base Period) * (Base Currency / Points Currency)
In this case, the interest rate differential is 1% (3% - 2%). The forward period and base period are both two years, so the ratio is 1. The base currency is USD and the points currency is EUR, so the last factor is $/€.
Forward Points = 1% * 1 * 1.50/€ = 0.015 $/€ = 150 basis points
Therefore, the two-year forward points are 150 basis points or 1.5 cents per euro. The closest answer is C) 300.

The USD-EUR Spot Exchange Rate Is $1