Business, 22.02.2021 19:10 susie1968

Suppose that California Co., a U. S. based MNC, seeks to capitalize a difference in interest rates between euros and British pounds via the use of a carry trade. In particular, after 1 month, funds invested in euros will yield a 0.50% percent return, while funds invested in pounds will yield a return of 2.00% percent. Currently the spot rate of the British pound is 51.00 while the spot rate of the euro is $0.80. In other words, the pound is worth 1.25 euros. California Co. expects these spot rates to remain constant over the next month. The previous scenario assumed that the spot rates of the pound and the euro remained constant. However, there is a risk that the exchange rates change. Suppose that the euro appreciates over the course of the month, such that the cross exchange rate is now 0.78125 euros per pound. Assume the spot rate for the pound remains constant at $1.00 per pound.

Under this new cross exchange rate of 0.78125, the 603,000 euros that California Co. needs to repay is equivalent to pounds. Thus, after repaying the loan, California Co. will have pounds from the 693,600 pounds they received from the initial investments. These pounds are equivalent to -$78,240.00, and represents a profit of $ over the initial $200,000 that California Co. used from their own funds.

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Suppose that California Co., a U. S. based MNC, seeks to capitalize a difference in interest rates b...

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