(Global Investments 6e Bruno Solnik, Dennis McLeavey)
(Test Bank all Chapters)
Chapter 1
Currency Exchange Rates
Note: In the sixth edition of Global Investments, the exchange rate quotation symbols differ from previous
editions. We adopted the convention that the first currency is the quoted currency in terms of units
of the second currency.
For example, €:$ = 1.4 indicates that one euro is priced at 1.4 dollars. In previous editions we used
the reversed convention $/€ = 1.4, meaning 1.4 dollars per euro.
All problems in this test bank still use the old convention and have not been adapted to reflect the
new quotation symbols used in the 6th edition.
◼ Questions and Problems
1. You noticed that the exchange rate between the Korean won and the U.S. dollar has changed
considerably. The won/dollar exchange rate has moved from 800 won per dollar to 1000 won per
dollar.
a. Has the Korean won appreciated or depreciated with respect to the dollar? By what percentage?
b. By what percentage has the value of the dollar changed with respect to the won?
Solution
a. One won was worth 1/800 or 0.00125 dollars earlier. It is worth 1/1000 or 0.001 dollars now.
Thus, the won has depreciated with respect to the dollar. Percentage change in the dollar value
of the won
0.001 − 0.00125
= 100% = −20%.
0.00125
b. One dollar was worth 800 won earlier and is worth 1000 won now. Percentage change in the
value of the dollar
1000 − 800
= 100% = 25.0%.
800
2. Here are some quotes of the Japanese yen/U.S. dollar spot exchange rate given simultaneously on the
phone by three banks:
Bank A: 121.15–121.30
Bank B: 121.22–121.35
Bank C: 121.20–121.25
Are these quotes reasonable? Do you have an arbitrage opportunity?
,2 Solnik/McLeavey • Global Investments, Sixth Edition
Solution
These quotes are reasonable. There is no way to make a riskless arbitrage by buying dollars for yen
from one bank at its ask rate and selling dollar for yen to another at its bid rate. If you need to buy
dollars, you are better off buying them from Bank C at 121.25 yen per dollar. If you need to sell
dollars, you are better off selling them from Bank B at 121.22 yen per dollar.
3. Here are some quotes of the Swiss franc/U.S. dollar spot exchange rate given simultaneously on the
phone by three banks:
Bank A: 1.3435–1.3440
Bank B: 1.3435–1.3445
Bank C: 1.3445–1.3450
Are these quotes reasonable? Do you have an arbitrage opportunity?
Solution
These quotes are unreasonable since they deviate from Bank A to Bank C by more than the spread;
for example, Bank A’s ask rate (1.3440 Swiss francs per dollar) is smaller than Bank C’s bid rate
(1.3445 Swiss francs per dollar). There is, therefore, an obvious arbitrage opportunity. One can buy
Bank A’s dollars for 1.3440 Swiss francs per dollar, sell these dollars to Bank C for 1.3445 Swiss
francs per dollar, and thereby make a profit of 0.0005 franc per dollar traded. This is a riskless,
instantaneous operation that requires no initial investment.
4. You visit the foreign exchange trading room of a major bank. A trader asks for quotations of the
British pound from various correspondents and hears the following quotes:
From Bank A: 1.6580–1.6585
From Bank B: 1.6582–1.6587
What do they mean?
Solution
These quotations mean that Bank A is willing to buy a pound for 1.6580 dollars (bid rate) or to
sell one for 1.6585 dollars (ask rate). Bank B’s $/€ bid rate is 1.6582; its ask rate is 1.6587. That is,
Bank B is willing to buy a pound for 1.6582 dollars or to sell one for 1.6587 dollars.
5. The euro is quoted as $/€ = 1.1420–1.1425, and the Canadian dollar is quoted as C$/US$ = 1.3540–
1.3545. What is the implicit C$/€ quotation?
Solution
The C$/€ quotation is obtained as follows. In obtaining this quotation, we keep in mind that
C$/€ = C$/$ $/€, and that the price for each transaction (bid or ask) is the one that is more
advantageous to the trader.
The C$/€ bid price is the number of Canadian dollars that a trader is willing to pay for one euro.
This transaction (buy euro–sell Canadian dollars) is equivalent to selling Canadian dollars to buy
U.S. dollars (at a bid rate of 1.3540), and then selling those U.S. dollars to buy euros (at a bid rate
of 1.1420). Mathematically, the transaction is as follows:
The C$/€ ask price is the number of Canadian dollars that a trader is asking for one euro. This
transaction (sell euros–buy Canadian dollars) is equivalent to buying Canadian dollars with
U.S. dollars (at an ask rate of 1.3545) and simultaneously purchasing these dollars against euros
(at an ask rate of 1.1425). Mathematically, this can be expressed as follows:
(ask C$/$) (ask $/€) = 1.3545 1.1425 = 1.54752.
So the resulting quotation by the trader is:
C$/€ = 1.54627–1.54752.
6. The euro is quoted as €/$ = 0.79610–0.79650, and the Australian dollar is quoted as A$/$ = 1.5675–
1.5685. What is the implicit A$/€ quotation?
Solution
The “bid” A$/€ is given by:
(bid A$/$)/(ask €/$) = 1.5675/0.79650 = 1.9680.
The “ask” A$/€ is given by:
(ask A$/$)/(bid €/$) = 1.5685/0.79610 = 1.9702.
So the implicit A$/€ quotation is:
A$/€ = 1.9680–1.9702.
7. A foreign exchange trader quotes the dollar value of one euro as $/€ = 1.1510–1.1520.
These are direct bid–ask rates for a New York trader. What would be the implicit indirect
quotes for €/$?
Solution
The indirect bid would be:
(bid €/$) = 1/(ask $/€) = 1/1.520 = 0.86805.
The indirect ask would be:
(ask €/$) = 1/(bid $/€) = 1/1.1510 = 0.86881.
The implicit €/$ quote would be: 0.86805–0.86881.
8. The spot $/€ is equal to 1.1795. The one-year interest rates on the Eurocurrency market are 4% in
euros and 5% in U.S. dollars. The one-month interest rates are 3% in euros and 4% in U.S. dollars.
a. What is the one-year forward exchange rate?
b. What is the one-month forward exchange rate?
Solution
According to interest rate parity, the forward exchange rate is equal to the spot exchange rate adjusted
by the interest rate differential.
, 4 Solnik/McLeavey • Global Investments, Sixth Edition
Hence, the one-year $/€ forward rate is given by:
1.05
$/€ = 1.1795 = 1.1908.
1.04
The one-month $/€ forward rate is given by:
1 + (4 /12)%
$/€ = 1.1795 = 1.1805.
1 + (3 /12)%
9. The bid–ask rates are as follows:
Spot exchange rate:
¥/$ 102.40–48
Interest rates:
One-year interest rate in ¥ 11/2 – 5/8
One-year interest rate in $ 91/8 – 1/4
What is the quotation for the one-year ¥/$ forward exchange rate?
Solution
The bid forward exchange rate is:
1 + 1.5%
¥/$ = 102.40 = 95.1359.
1 + 9.25%
The ask forward exchange rate is:
1 + 1.625%
¥/$ = 102.48 = 95.4367.
1 + 9.125%
Therefore, the quotation for the one-year ¥/$ forward exchange rate is 95.1359–95.4367.
10. The bid–ask rates are as follows:
Spot exchange rate:
CHF/USD: 1.4100–1.4140
Interest rates:
One-month CHF 11/2 – 5/8
One-year CHF 11/4 – 1/2
One-month USD 51/8 – 1/4
One-year USD 51/2 – 3/4
What are the quotations for the one-month and one-year CHF/USD forward exchange rates?
Solution
a. The bid one-month forward exchange rate is:
1 + (1.50/12)%
CHF/USD = 1.4100 = 1.4056.
1 + (5.25/12)%
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