The £ Is Worth 1

The £ is worth 1.2569 euros and the euro is worth $1.5568. Statistical analysis indicates that when the euro rises 1% against the dollar, the pound rises 0.5% against the euro and vice versa. A U.S. bank has assets of £40 million that mature in one year funded with liabilities of €55 million due in 6 months. The bank would be hurt by:
I. an increase in the value of the euro against the dollar.
II. a decrease in the value of the euro against the dollar.
III. an increase in euro interest rates relative to pound interest rates.
IV. an increase in pound interest rates relative to euro interest rates.

A) I only
B) I and II only
C) I and III only
D) II and IV only
E) II and III only The euro value of the assets = £40 x 1.2569 = €50.277 M, so the bank has a net euro liability exposure that puts it at risk from an increase in the value of the euro against the dollar. Because the pound assets mature in one year and the euro liabilities mature in six months, the bank is at risk from rising euro interest rates relative to pound interest rates.