9. Current one-year interest rates in Europe is 4 percent, while one-year interest rates in the U. S. is 2 percent. You convert $200,000 to euros and invests them in France. One year later, you convert the euros back to dollars. The current spot rate of the euro is $1.20. a. According to the IFE, what should the spot rate of the euro in one year be? b. If the spot rate of the euro in one year is $1.12, what is your percentage return from your investment? c. If the spot rate of the euro in one year is $1.31, what is your percentage return from your investment? d. What must the spot rate of the euro be in one year for your strategy to be successful?

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4 June, 21:23

9. Current one-year interest rates in Europe is 4 percent, while one-year interest rates in the U. S. is 2 percent. You convert $200,000 to euros and invests them in France. One year later, you convert the euros back to dollars. The current spot rate of the euro is $1.20. a. According to the IFE, what should the spot rate of the euro in one year be? b. If the spot rate of the euro in one year is $1.12, what is your percentage return from your investment? c. If the spot rate of the euro in one year is $1.31, what is your percentage return from your investment? d. What must the spot rate of the euro be in one year for your strategy to be successful?

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Answers (1)

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Nathaniel Knox · Answer 1

Solution:

Given,

1 Year interest rates in Europe = 4 %

1 Year interest rates in the U. S. = 2 %

You are translating $200,000 and spending $200,000 in French

Current spot rate of the euro = $1.20

a. (2%-4%) / (1+4%) = (S - 1.20) / 1.20

S = $1.1769 one year Euro rate

b. ($1 / 1.20) (1 + 4%) * 1.12 = $.9707 return of - 2.93% (loss)

c. ($1 / 1.20) (1 + 4%) * 1.31 = $1.1353 return of 13.53% (gain)

d. ($1 / 1.20) (1 + 4%) * S = $1 (1+2%);

S=$1.1769

A spot rate of over $1.17697 (this is the same in part A) would be effective.