Download 2 - JustAnswer

Solutions Guide:
2. Table 28.1 shows the 90-day forward rate on the South African rand.
a. Is the dollar at a forward discount or premium on the rand?
b. What is the annual percentage discount or premium?
c. If you have no other information about the two currencies, what is your best guess
about the spot rate on the rand three months hence?
d. Suppose that you expect to receive 100,000 rand in three months. How many dollars is
this likely to be worth
a.
The dollar is selling at a forward premium on the rand.
b.
 6.4662

4 
 1   0 .0762  7.62%
 6.5917

c. Using the expectations theory of exchange rates, the forecast is:
$1 = 6.5917 rand
d. 100,000 rand = $(100,000/6.5917) = $15,170.59
10. In March 2004, an American investor buys 1,000 shares in a Mexican company at a
price of 500 pesos each. The share does not pay any dividend. A year later she sells the
shares for 550 pesos each. The exchange rates when she buys the stock are shown in
Table 28.1. Suppose that the exchange rate at the time of sale is peso $12.0/$.
a. How many dollars does she invest?
b. What is her total return in pesos? In dollars?
c. Do you think that she has made an exchange rate profit or loss? Explain.
a.
Pesos invested = 1,000  500 pesos = 500,000 pesos
Dollars invested = 500,000/10.9815 = 45,531.12
b.
Total return in pesos 
(550  500)  (1000)
 0.10  10.0%
500 1000
Dollars received = (550  1000)/12.0 = 45,833.33
Total return in dollars 
c.
45,833.33  45,531.12
 0.0066  0.66%
45,531.12
There has been a return on the investment of 10% but a loss on the
exchange rate.
11.
11. Table 28.4 shows the annual interest rate (annually compounded) and
exchange rates against the dollar for different currencies. Are there any
arbitrage opportunities? If so, how would you secure a positive cash flow
today, while zeroing out all future cash flows?
To determine whether arbitrage opportunities exist, we use the interest rate
theory. For example, we check to see whether the following relationship
between the U.S. and Costaguana holds:
1  rpulgas
1  r$

fpulgas / $
spulgas / $
For the different currencies, we have:
Costaguana
Westonia
Gloccamorra
Anglosaxophonia
Ratio of Interest
Rates
1.194175
1.019417
1.048544
1.010680
Ratio of Forward Rate
to Spot Rate
1.194200
1.019231
1.064327
0.991304
For Anglosaxophonia and Gloccamorra, there are arbitrage opportunities
because interest rate parity does not hold. For example, one could borrow
$1,019 at 3% today, convert $1,000 to 2,300 wasps, and invest at 4.1%. This
yields 2,394.3 wasps in one year. With a forward contract to sell these for
dollars, one receives (2,394.3/2.28) = $1,050 dollars in one year. This is just
sufficient to repay the $1,019 loan: $1,019 × 1.03 = $1,049.57
The $19 difference between the amount borrowed ($1,019) and the amount
converted to wasps ($1,000) is risk-free profit today.
2. Banks are not the only financial intermediary from which corporations can obtain
financing. What are the other intermediaries? How much financing do they supply,
relative to banks, in the United Kingdom, Germany, and Japan
Other financial intermediaries include insurance companies, mutual funds and
pension funds. In Japan, banks provide relatively more financing than do other
financial intermediaries, while in the U.K., other financial intermediaries provide
substantially more financing. In the U.S., banks are less important sources of
financing compared to financial intermediaries, and in Europe, financing provided
by banks and financing provided by other financial intermediaries are
approximately equal.
3. Why is transparency important in a market-based financial system? Why is it less
important in a bank-based system?
Transparency is essential in a market-based system, but is not necessarily a
requirement for a bank-based system. In a bank-based system, banks have longstanding working relationships with the companies seeking financing, and banks
have on-going access to information about the firm. In a market-based system,
creditors and equity-holders require that financial information about companies
seeking financing be available, sufficiently detailed and accurate if they are to
participate in the market. This information, including audited financial statements,
allows participants in the market to make judgments about a firm’s profitability
and prospects for the future. Without this information, investors are not willing to
participate in the financial markets.
7. What are some of the advantages and disadvantages of Japanese keiretsus?
A Japanese keiretsu is a network of companies with cross-holdings and numerous
interrelationships. These include long-standing relationships among the companies
in the keiretsu, and between the companies and the bank that is often associated
with the keiretsu. The advantages of this form of organization include the ability to
obtain debt financing from the keiretsu’s bank or from other affiliated financial
institutions. Financing can also be obtained from other companies in the keiretsu,
avoiding the need for external financing. Keiretsus tend to have relatively stable
cash flows and are often able to resolve issues related to the financial distress of a
company in the keiretsu. A disadvantage of this form of organization is the fact that
outside shareholders have little, if any, influence on the companies in the keiretsu.
As a result, dividends are relatively low and takeovers are extremely rare.