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International Finance Solution

Autor:   •  September 20, 2017  •  Coursework  •  894 Words (4 Pages)  •  187 Views

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  SOLUTION TO HOMEWORK1

“The Foreign Exchange Market:  Background Note and Problem Set”

Steve Heston

(If you have trouble or don’t understand the answers then see me, call me, or e-mail me!).

1)        The Pound and SDR’s are direct; others are indirect.

DM is indirect quoted, DM/$. To see how many $’s you can get for DM1, you need to invert the quotes. So, for DM1 you will get [pic 1]. (When in doubt which of the two quotes to invert, always invert the one that will make you worse off, i.e. give you fewer $’s per DM). For DM1,000,000 you will get 1,000,000*0.4921=1,000,000/2.0320  =  $492,126.

The settlement takes place in two business days.

  1. The Yen is overpriced in terms of Francs.  One way to see this is to calculate all cross rates directly from spot rates in Exhibit 1. Or alternatively, simply invert all cross rates from Exhibit 2, and look for major discrepancies. Remember that DM/FF offer = 1/(FF/DM bid). So invert bid prices to get the asks and invert ask prices to get the bids:

Exhibit 2

DM

FF

Yen

DM

1

.3050/51

1.3169/71

FF

3.2779/88

1

4.3365/84

Yen

75.9232/350

23.1595/618

1

To get the ask prices, invert bids:

Bids inverted

DM

FF

Yen

DM

1

0.305073

(=1/3.2779)

1.31712

(=100/75.9232)

FF

3.278689

(=1/3050)

1

4.317883

(=100/23.1595)

Yen

75.93591

(=100/1.3169)

23.06007

(=100/4.3365)

1

To get the bid prices invert asks:

Asks inverted

DM

FF

Yen

DM

1

0.304990

(=1/3.2788)

1.316916

FF

3.277614

(=1/0.3051)

1

4.317454

(=100/23.1618)

Yen

75.92438

(=100/1.3171)

23.04997

(=100/4.3384)

1

It is clear from the table that the major discrepancies involve the FF-Yen cross rate. To see whether FF/Yen or Yen/FF is mispriced, calculate each from the remaining rates. First calculate FF/DM*DM/Yen to get FF/Yen, then Yen/DM*DM/FF to get Yen/FF.

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