Exam 13: Foreign Exchange Risk

Your U.S. bank issues a one-year U.S. CD at 5 percent annual interest to finance a C$1.274 million (Canadian dollar) investment in two-year, fixed rate Canadian bonds selling at par and paying 7 percent annually. You expect to liquidate your position in one year. Currently, spot exchange rates are US$0.78493 per Canadian dollar. Your position is exposed to

An FI has purchased (borrowed) a one-year $10 million Eurodollar deposit at an annual interest rate of 6 percent. It has invested these proceeds in one-year Euro (€) bonds at an annual rate of 6.5 percent after converting them at the current spot rate of €1.75/$. Both interest and principal are paid at the end of the year. What is the spread earned if the bank can sell one-year forward Euros at €1.755/$?

An FI has purchased (borrowed) a one-year $10 million Eurodollar deposit at an annual interest rate of 6 percent. It has invested these proceeds in one-year Euro (€) bonds at an annual rate of 6.5 percent after converting them at the current spot rate of €1.75/$. Both interest and principal are paid at the end of the year. What is the spread earned by the bank if the end-of-year exchange rate is €1.77/$?

Purchasing power parity is based on the difference in productive output (GDP) that exists between two countries.

During the late 2000's financial crisis, global stock market return correlations decreased relative to the decade before the crisis.

The FI is acting as a speculator when it

Canadian pension funds invest approximately one percent (1%) of their portfolios in foreign securities.

The following are the net currency positions of a Canadian FI (stated in Canadian dollars). What is the FI's net exposure in British pounds?

The exposure to foreign exchange risk by Canadian FIs has decreased with the growth of the various derivative markets.

Which of the following factors help explain the decline in FX trading in the early years of this century?

The market in which foreign currency is traded for immediate delivery is the

An FI can control its FX risk exposure by on-balance-sheet and off-balance-sheet hedging.

The real interest rate reflects the underlying real sector demand and supply for funds denominated in the domestic currency.

Which of the following FX trading activities is used for purposes of speculation?

As the Canadian dollar appreciates against the Japanese yen, Japanese goods sold in Canada become less expensive to the Canadian consumer.

Yen Bank wishes to invest in Yen loans at a rate of 10 percent. The bank will fund the loans in the domestic GIC market at a rate of 6.3 percent. This on-balance-sheet FX risk will be hedged in the spot market at a forward rate of $0.62/¥. The spot rate on yen is $0.60/¥. What must be the spot exchange rate to eliminate the preference for the yen loans if the forward rate remains $0.62/¥?

Your U.S. bank issues a one-year U.S. CD at 5 percent annual interest to finance a C$1.274 million (Canadian dollar) investment in two-year, fixed rate Canadian bonds selling at par and paying 7 percent annually. You expect to liquidate your position in one year. Currently, spot exchange rates are US$0.78493 per Canadian dollar. What is the end of year profit or loss on the bank's cash position if in one year both Canadian bond rates increase to 7.538 percent and the exchange rate falls to US$0.765 per Canadian dollar? (Assume no change in U.S. interest rates.)

In which of the following FX trading activities does the FI not assume FX risk?

To a Canadian trader of foreign currencies, a direct quote indicates Canadian dollars received for each one unit of the foreign currency.

Interest rate parity implies that the discounted spread between interest rates in two currencies should equal the percentage spread between forward and spot exchange rates.