Multiple Choice
Identify the
choice that best completes the statement or answers the question.
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1.
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Due to _______, market forces should realign the relationship between the
interest rate differential of two currencies and the forward premium (or discount) on the forward
exchange rate between the two currencies.
a. | forward realignment arbitrage | c. | covered interest
arbitrage | b. | triangular arbitrage | d. | locational arbitrage |
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2.
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In which case will locational arbitrage most likely be feasible?
a. | One bank's ask price for a currency is greater than another bank's bid
price for the currency. | b. | One bank's bid price for a currency is
greater than another bank's ask price for the currency. | c. | One bank's ask
price for a currency is less than another bank's ask price for the currency. | d. | One bank's bid
price for a currency is less than another bank's bid price for the
currency. |
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3.
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If the interest rate is lower in the U.S. than in the United Kingdom, and if the
forward rate of the British pound is the same as its spot rate:
a. | U.S. investors could possibly benefit from covered interest
arbitrage. | b. | British investors could possibly benefit from covered interest
arbitrage. | c. | neither U.S. nor British investors could benefit from covered interest
arbitrage. | d. | A and B |
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4.
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Based on interest rate parity, the larger the degree by which the foreign
interest rate exceeds the UK interest rate, the:
a. | larger will be the forward discount of the foreign currency. | b. | larger will be the
forward premium of the foreign currency. | c. | smaller will be the forward premium of the
foreign currency. | d. | smaller will be the forward discount of the
foreign currency. |
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5.
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Assume the bid rate of a Singapore dollar is £0.20 while the ask rate is
£0.21 at Bank X. Assume the bid rate of a Singapore dollar is £0.22 while the ask rate is
£0.23 at Bank Z. Given this information, what would be your gain if you use £1,000,000 and
execute locational arbitrage? That is, how much will you end up with over and above the
£1,000,000 you started with?
a. | £11,764. | b. | £47,619. | c. | £36,585. | d. | £48,710. | e. | £18,219. |
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6.
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Assume the U.S. dollar is worth £0.55, and the Canadian dollar is worth
£0.47. What is the value of the Canadian dollar in U.S. dollars to the nearest cent?
a. | 1.54. | b. | 0.42. | c. | 0.15 | d. | 0.85 | e. | 1.17 |
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7.
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Assume the bid rate of a Swiss franc is £0.42 while the ask rate is
£0.45 at Bank X. Assume the bid rate of the Swiss franc is £0.40 while the ask rate is
£0.41 at Bank Y. Given this information, what would be your gain if you use £1,000,000 and
execute locational arbitrage? That is, how much will you end up with over and above the
£1,000,000 you started with?
a. | £24,340. | c. | £150,000. | b. | £125,000. | d. | £12,550. |
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8.
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Assume the bid rate of an Australian dollar is £0.40 while the ask rate is
£0.42 at Bank Q. Assume the bid rate of an Australian dollar is £0.415 while the ask rate
is £0.419 at Bank V. Given this information, what would be your gain if you use £1,000,000
and execute locational arbitrage? That is, how much will you end up with over and above the
£1,000,000 you started with?
a. | £10,003. | b. | £12,063. | c. | £14,441. | d. | £0. | e. | £18,219. |
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9.
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Assume the following information:
You have £400,000 to invest
Current
spot rate of Sudanese dinar (SDD) = £0.00317
1 year forward rate of the dinar =
£0.00311
1 year interest rate in the UK = 4.0%
1 year interest rate in Sudan = 4.2%
If you conduct covered interest arbitrage, what amount will you have after 1
year to the nearest £?
a. | £416,000. | b. | £424,841. | c. | £424,242. | d. | £408,911. | e. | none of the
above |
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True/False
Indicate whether the
statement is true or false.
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10.
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For locational arbitrage to be possible, one bank's ask rate must be higher
than another bank's bid rate for a currency.
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11.
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Realignment in the exchange rates of banks will eliminate locational arbitrage.
More specifically, market forces will increase the ask rate of the bank from which the currency was
bought to conduct locational arbitrage and will decrease the bid rate of the bank to which the
currency was sold to conduct locational arbitrage.
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12.
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If interest rate parity (IRP) exists, then the rate of return achieved from
covered interest arbitrage should be equal to the rate available in the foreign country.
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