FIN 535 Week 4 Homework Assignment

FIN 535 Week 4 Homework Assignment
1. Intervention Effects on Corporate Performance. Assume you have a subsidiary in Australia. The subsidiary sells mobile homes to local consumers in Australia, who buy the homes using mostly borrowed funds from local banks. Your subsidiary purchases all of its materials from Hong Kong. The Hong Kong dollar is tied to the U.S. dollar. Your subsidiary borrowed funds from the U.S. parent, and must pay the parent $100,000 in interest each month. Australia has just raised its interest rate in order to boost the value of its currency (Australian dollar, A$).  The Australian dollar appreciates against the dollar as a result. Explain whether these actions would increase, reduce, or have no effect on:
 
a.   The volume of your subsidiary- sales in Australia (measured in A$),
b.   The cost to your subsidiary of purchasing materials (measured in A$)
c.   The cost to your subsidiary of making the interest payments to the U.S. parent (measured in A$).
 
Briefly explain each answer.
 
2. Pegged Currency and International Trade. Assume that Canada decides to peg its currency (the Canadian dollar) to the U.S. dollar and that the exchange rate will remain fixed. Assume that Canada commonly obtains its imports from the U.S. and Mexico. The U.S. commonly obtains its imports from Canada and Mexico. Mexico commonly obtains its imports from the U.S. and Canada. The traded products are always invoiced in the exporting country- currency. Assume that the Mexican peso appreciates substantially against the U.S. dollar during the next year.
 
a.       What is the likely effect (if any) of the peso- exchange rate movement on the volume of Canada- exports to Mexico? Explain.
b.      What is the likely effect (if any) of the peso- exchange rate movement on the volume of Canada- exports to the U.S.? Explain.
 
3. Deriving the Forward Rate. Assume that annual interest rates in the U.S. are 4 percent, while interest rates in France are 6 percent.
 
a. According to IRP, what should the forward rate premium or discount of the euro be?
b. If the euro- spot rate is $1.10, what should the one-year forward rate of the euro be?
 
4. Profit from Triangular Arbitrage. The bank is willing to buy dollars for 0.9 euros per dollar.
It is willing to sell dollars for .91 euros per dollar.
 
You can sell Australian dollars (A$) to the bank for $.72.
You can buy Australian dollars from the bank for $.74. 
 
The bank is willing to buy Australian dollars (A$) for 0.68 euros per A$.
The bank is willing to sell Australian dollars (A$) for 0.70 euros per A$.
 
You have $100,000. Estimate your profit or loss if you were to attempt triangular arbitrage by converting your dollars to Australian dollars, and then converting Australian dollars to euros, and then converting euros to U.S. dollars.