国际财务管理选择题 Multiple Choice Quiz Chapter 1 -10

MultipleChoiceQuiz Chapter1-10

1

SincetheEUaccession,manyHungarianshaveborrowedintermsoftheeuroorSwissfranctopurchasehouses.However,astheforint(theHungariancurrency)wasfallingagainsttheeuroandSwissfranc,thecostofthemortgagepaymentsintermsoftheforintincreasedsharply,forcingmanyborrowerstodefault.Thisisanexampleofexposureto

A) exchangeraterisk.

B)

C)

politicalrisk.

marketimperfections.

D) weaknessinthedollar.

Feedback:Correct!

2

Ifacountryunexpectedlyimposesrestrictionsonimportedgoods,thistradebarrierisanexampleof

A) exchangeraterisk.

B)

politicalrisk.

C) amarketimperfection.

D) anexpandedopportunityset.

Feedback:Correct!

3

Adomesticfirmthatproducesandsellsitsproductsinonecountry

A) isprotectedfromforeignexchangerisk.

B)

couldfaceforeignexchangerisk.

C) canfacenopoliticalrisk.

D) isanexampleofamarketimperfection.

Feedback:Correct!

4

Afundamentalgoalofsoundbusinessmanagementis

A) shareholderwealthmaximization.

B)

marketsharemaximization.

C) growthinsales.

D) increasingthesizeofthefirm.

Feedback:Correct!

5

TheEuropeanCentralBankislocatedin

A) Düsseldorf,Germany.

B)

Frankfurt,Germany.

C) London,England.

D) Paris,France.

Feedback:Correct!

6

Thetheoryofcomparativeadvantagestatesthat

economicwell-beingisenhancedifcountriesproducethosegoodsforwhichtheyhavecomparativeadvantageandthen

A)

tradethosegoodsforgoodsthattheydonotenjoyacomparativeadvantageinproducing.

economicwell-beingisenhancedifcountriesconsumethosegoodsforwhichtheyhaveacomparativeadvantageand

thentradeforthosegoods.

tariffsandotherprotectionistmeasurescanenhancethemercantilesuccessofcountriesthatadoptthem.

countriesshouldfirstproducethegoodsandservicesthattheyneed,andthenproducegoodsforexport.

Feedback:Correct!

7

Theeurois

A) thecommoncurrencyofEurope.

B)

C)

animaginarymarketbasketofcurrencies.

anindexofthevalueof12EuropeancurrenciesrelativetotheU.S.dollar.

D) peggedtotheU.S.dollaratafixedexchangerateofparity.

Feedback:Firstintroducedin1999,theeuroisthecommoncurrencyofEurope.

8

TheNorthAmericanFreeTradeAgreement(NAFTA)

A) hascausedmassiveunemploymentintheUnitedStatesasjobswentoverseas.

B)

C)

callsfortheintroductionofaregionalcurrencycalledtheamero,similartotheeuro,by2015.

isanagreementamongtheUnitedStates,Canada,andMexicothatcallsforthephasingoutoftariffsandimportquotasovera15-yearperiod.

D) callsfortheprivatizationofallindustriesinMexicoovera15-yearperiod.

Feedback:Correct!

9

AU.S.investorwhoisinterestedinthesharesofNokiaCorporationofFinland

shouldprobablystickwithU.S.companies.

willbeabletoeasilyinvestigatethecompany,duetothereadyflowofinformationovertheInternetandtheglobalization

ofcapitalmarkets.

musttraveltoFinlandinperson,orsendarepresentativepersonally,tobuytheshares.

D) canbuythesharesbutcannotbringthemtotheU.S.legally.

Feedback:Correct!

ThedominantworldcurrencysincetheendofWorldWarIIhasbeenthe

A)

U.S.dollar.

B)

Canadiandollar.

C)

Britishpound.

D)

euro.

Feedback:Correct!

SupposetheUnitedStatesandGreatBritainareonthegoldstandardandthepriceofgoldintheU.S.isfixedat$100perounceandthepriceofgoldinBritainisfixedat£50perounce.Whatexchangerateshouldprevailbetweenthedollarandthepound?

£1=$2

A)

£2=$1

B)

£1=$0.50

C)

D)Thereisnotenoughinformationtomakeadetermination.

Feedback:Correct!

2

Gresham'slawstatesthat

exchangeratesbetweencurrenciesmustequaltheratioofthepriceofgoldinthetwocountries.

A)

goodmoneydrivesbadmoneyoutofcirculation.

B)

badmoneydrivesgoodmoneyoutofcirculation.

C)

D)theprice–specie–flowmechanismwillautomaticallyadjustexchangeratestotheircorrectlevel.

Feedback:ThisdescribesnotGresham'slawbuttheprice–specie–flowmechanismattributedtoDavidHume.

3

Thekeyargument(s)infavorofflexibleexchangeratesrestson

easierexternaladjustments.

A)

nationalpolicyautonomy

B)

BothAandBarecorrect.

C)

D)Noneoftheabove.

Feedback:Whileflexibleexchangeratesdoautomaticallycorrectanybalance–of–paymentsdisequilibrium,answerBisalsocorrect.

SupposethattheBritishpoundispeggedtogoldat£20perounceandtheU.S.dollarispeggedtogoldat$35perounce.Thisimpliesanexchangerateof$1.75perpound.Ifthecurrentmarketexchangerateis$1.80perpound,howwouldyoubesttakeadvantageofthissituation?

Startwith$350.Buy10ouncesofgoldwithdollarsat$35perounce.Convertthegoldto£200

A)

at£20perounce.Exchangethe£200fordollarsatthecurrentrateof$1.80perpoundtoget

$360.

B)

Startwith£350.Buy17.5ouncesofgoldat£20perounce.Convertthegoldtodollarsat$35perounce.Exchangethedollarsforpoundsatthecurrentmarketexchangerateis$1.80perpound.

BothAandBarecorrect.

C)

D)Noneoftheabove.

Feedback:Correct!

5

ThesingleEuropeancurrencyiscalledthe

Eurodollar.

A)

euro.

B)

EMU,orEuropeanMonetaryUnit.

C)

D)SDR.

Feedback:EurodollarsareU.S.dollarsheldabroad.

WhichofthefollowingistruesincetheintroductionofasingleEuropeancurrency?

NationalcurrenciessuchastheFrenchfrancandGermanmarkarenolongerindependent

currencies.Theeuroisnowthesolelegaltenderinthesecountries.

Europeancountriesstillproducetheirnationalcurrencies,buttheexchangeratesarepeggedto

theeuro.

CountriesmustnowbuytheircurrenciesfromtheGermancentralbank.

C)

D)Noneoftheabove.

Feedback:Correct!

Theeurois

thecommoncurrencyofEurope.

A)

animaginarymarketbasketof12Europeancurrencies

B)

anindexofthevalueof12EuropeancurrenciesrelativetotheU.S.dollar.

C)

D)peggedtotheU.S.dollaratafixedexchangerateofparity.

Feedback:Firstintroducedin1999,theeuroisthecommoncurrencyofEurope.OnJuly1,2002,thelegal–tenderstatusofeuro–12nationalcurrencieswascanceled,leavingtheeuroasthesolelegaltenderinthosecountries.

8

OneadvantageoftheEuropeanMonetaryUnion(EMU)is

thelossofnationalmonetaryandexchange–ratepoliticalindependence.

A)

thetransitionofasymmetricmacro–economicshocks.

B)

reducedtransactioncostsandtheeliminationofexchange–rateuncertainty.

C)

D)enhancedcontrolofinterestratesinthemembercountries.

Feedback:Thelossofnationalmonetaryandexchange–ratepoliticalindependenceisaCOSToftheEMU.

9

Afixedexchangerateregime

forcesacountrytogiveupfreeinternationalflowsofcapital.

A)

caneliminateexchangerateuncertainty.

B)

forcesacountrytoabandonindependentmonetarypolicy.

C)

D)isthemodelusedbytheU.S.FederalReserve.

Feedback:Afixedexchangeratedoesnotnecessarilyforceacountrytogiveupfreeinternationalflowsofcapital.Seediscussionofthe"trilemma"onpage56.

10

ThedominantworldcurrencysincetheendofWorldWarIhasbeenthe

U.S.dollar.

A)

Canadiandollar.

B)

Britishpound.

C)

D)euro.

Feedback:Correct!

1

CORRECTInafixedexchangerateregime,acountrycanrunabalance–of–paymentssurplusordeficitbyincreasingordecreasing

A)

thecountry'sofficialreserves.

B)

thebalanceonthecapitalaccount.

C)

thebalanceonthecurrentaccount.

D)thetradedeficit.

Feedback:Correct!

2CORRECT

Inapureflexibleexchangerateregime,acountry'scentralbankswillnotneedtomaintainofficialreserves.Underthisregime,

—BCA=BKA.

A)

BCA=—BRA=0

B)

BKA=—BRA

C)

D)BSA=BCA

Feedback:Correct!

3

INCORRECT Inbalance–of–paymentsaccounting,acountry'sinternationaltransactionscanbegroupedintothreemaincategories:

thecurrentaccount,thecapitalaccount,andthefederalreservesaccount.

A)

thegovernmentspendingaccount,thecapitalaccount,andtheofficialreservesaccount.

B)

thecurrentaccount,thecapitalaccount,andtheofficialreservesaccount

C)

D)thecurrentaccount,thecapitalaccount,andthepaymentsaccount.

Feedback:Thisisincorrect.Seepage66.

4

INCORRECT IftheUnitedStatesimportsmorethanitexports,

theU.S.dollarwouldbelikelytoappreciateagainstothercurrencies.

A)

thesupplyofdollarsislikelytoexceedthedemandintheforeignexchangemarket,ceteris

paribus.

theU.S.dollarwouldbeunderpressuretodepreciateagainstothercurrencies.

C)

D)BothBandCarecorrect.

Feedback:TheU.S.dollarwouldbelikelytoDEPRECIATEagainstothercurrencies.

TheJ–curveeffectshows

theinitialdeteriorationandeventualimprovementofthetradebalancefollowingadepreciation.

A)

theinitialimprovementandeventualdeteriorationofthetradebalancefollowingadepreciation.

B)

thatbothimportsandexportsareresponsivetoexchangeratechanges,butonlyintheshort

run.

Noneoftheabove.

Feedback:Correct!

6

Thecapitalaccountmeasures

thedifferencebetweenU.S.exportsandimportsofgoodsandservices.

A)

thedifferencebetweenU.S.salesofassetstoforeignersandU.S.purchasesofforeignassets.

B)

allpurchasesandsalesofinternationalreserveassetssuchasdollars,foreignexchanges,gold,

andSDRs.

theamountofcurrencyintheFederalReservevault.

Feedback:Thisisthecurrentaccount.

7

Ifacountrymustmakeanetpaymenttoforeignersbecauseofabalance–of–paymentsdeficit,thecountrycan

increaseitsofficialreserveassets,suchasSDRs.

A)

borrowanewfromforeigners.

B)

printmorecurrency.

C)

D)buytheircurrenciesbackfromtheWorldBank.

Feedback:

Thecountrycoulddecrease itsofficialreserveassets,suchasSDRs,gold,andforeignexchangestofinanceabalance–of–paymentsdeficit.Seepage75.

SupposethataU.S.firmimportsbicyclesfromMercianBicyclesinDerby,England.Whichofthefollowingstatementsisthustrue?

ThetransactionwillgiverisetoadebitintheU.S.balance–of–payments.

A)

ThetransactionwillgiverisetoacreditintheU.S.balance–of–payments.

B)

Sincethevalueofthebicycleswillequalthevalueofthedollarssentabroad,thiswillgiveriseto

neitheradebitnoracreditintheU.S.balance–of–payments.

Noneoftheabove.

Feedback:Correct!

9

Invisibletradeisanothernamefor

off–the–books,orillegal,trade.

A)

statisticaldiscrepancy.

B)

services.

C)

D)Theofficialreservesaccount.

Feedback:Thisisincorrect.Seepage67.

10

Theworld'slargestdebtorandcreditornationsare,respectively,

JapanandtheUnitedStates.

A)

theUnitedStatesandJapan.

B)

theUnitedStatesandCanada.

C)

D)GreatBritainandMexico.

Feedback:Japanhasemergedastheworld'slargestCREDITORnation,whereastheUnitedStatesbecamethelargestDEBTORnation.

Whenlargeshareholdershavecontroloveracorporation,

thereisapossibilitythatthelargeshareholderscontrolthemanagersandincentivisethemto

A) expropriatewealthfromsmalloutsideshareholders.

therearenoagencycosts.

B)

theshareholdersareusuallyobese.

C)

D)Alloftheabove.

Feedback:Correct!

2

Manycompanieshaveprovidedmanagerswithexecutivestockoptions,which

areaformofincentivecontracts.

A)

canserveasamechanismofaligningtheinterestsofshareholdersandmanagers.

B)

canoffermanagersanincentivetorunthecompanyinsuchaswaythatenhancesshareholder

wealthaswellastheirown.

Alloftheabove.

Feedback:Thisistrue,butotheranswersarealsocorrect.Seepage88.

3

Whichofthefollowingstatementsistrueregardingfreecashflow?

Itrepresentsafirm'sinternallygeneratedfundsinexcessoftheamountneededtoundertakeall

A) profitableinvestmentprojects.

Ittendstobehighestinmatureindustrieswithlowfuturegrowthprospects.

B)

Itrepresentsatemptationtomanagers.

C)

D)Alloftheabove.

Feedback:Thisisincorrect.Seepage91.

IntheUnitedStates,shareholdersofacorporationelect

theboardofdirectors.

A)

thepresidentshareholder.

B)

themanagementofthefirm.

C)

D)Noneoftheabove.

Feedback:Correct!

5

Borrowing,andthesubsequentobligationtomakeinterestpaymentsontime,serves

tocreatefreecashflow.

A)

asanexampleoftheagencycostsofdebt.

B)

toamelioratetheagencycostsofequity,uptoapoint.

C)

D)Noneoftheabove.

Feedback:Thisisincorrect.Seepage91.

6

SupposeaU.S.companycontinuallyperformspoorlyandallofitsinternalgovernancemechanismsfailtocorrecttheproblem.Whatwillhappeninthissituation?

Overtimeanoutsider(corporateraider)willbepromptedtomountatakeoverbid.

A)

Ahostiletakeoverbidcanoccurasadrasticgovernancemechanismofthelastresort.

B)

Themarketforcorporatecontrolmaydisciplinemanagers.

C)

D)Alloftheabove.

Feedback:Thisiscorrect,butotheranswersarealsocorrect.Seepage92.

StudiesreportthatforeignfirmslistedintheUnitedStatesarevaluedmorethanthosefromthesamecountriesthatarenotlistedintheUnitedStates.Thisisseenbecause

firmslistedintheUnitedStatescantakebetteradvantageofgrowthopportunitiesand

controllingshareholderscannotextractasmanyprivatebenefits.

foreignfirmsinmatureindustrieswithlimitedgrowthopportunitiesaremostlikelytoseekU.S.

listings

ofareductioninexchangerateuncertainty.

C)

D)Alloftheabove.

Feedback:Correct!

Poorinvestorprotectionresultsin

concentratedownership,underdevelopedcapitalmarkets,andslowereconomicgrowth.

A)

greaterjudicialactivism.

B)

C)

higherstockreturns.

D)Noneoftheabove.

Feedback:Correct!

Companiesdomiciledincountrieswithweakinvestorprotection

mayneedtohaveconcentratedownershipasasubstituteforlegalprotection.

A)

canenjoyhigherfreecashflowinthelongterm.

B)

mayexperienceahigherrateofeconomicgrowththanotherwise–identicalfirmsdomiciledin

C)

countrieswithstronginvestorprotection.

D)Alloftheabove.

Feedback:Correct!

10

Thegreatestadvantageofthecorporateformofbusinessorganizationis

theefficientrisksharingthatallowscorporationstoraiselargeamountsofcapital.

A)

thepotentialforabuseofpowerthatresidesinthechiefexecutives'offices.

B)

thebenefit(togovernments)ofdoubletaxation.

C)

D)Noneoftheabove.

Feedback:Correct!

Supposeyouobservethefollowingexchangerates:€1=$1.25and£1=$2.00.Whatwouldbetheeuro–poundexchangerate?

€1=£1.60

A)

€1=£0.625

B)

€2.50=£1

C)

D)€1=£2.50

Feedback:Correct!

Supposeyouobservethefollowingexchangerates:€1=$.85;£1=$1.60,and€2.00=£1.00.Howcanyoubestmakemoneyifyoustartwith$1,000,000?

Exchange$1Mforpoundsat£1=$1.60.Next,exchangeforeurosat€2=£1.00.Finally,

A)

B)

exchangefordollarsat€1=$.85.

Exchange$1Mforeurosat€1=$.85.Next,exchangeforpoundsat€2.00=£1.00.Finally,exchangefordollarsat£1=$1.60.

C)

Startwitheuros;exchangeforpounds;exchangefordollars;exchangeforeuros.

D)Noarbitrageprofitispossible.

Feedback:Correct!

3

ConsideringthespotandforwardratequotationsfortheSwissfrancbelow,whichofthefollowingstatementsistrue?

TheSwissfrancisdefinitelygoingtobeworthmoredollarsinsixmonths.

A)

TheSwissfrancisprobablygoingtobeworthlessindollarsinsixmonths

B)

TheSwissfrancistradingataforwarddiscount.

C)

D)TheSwissfrancistradingataforwardpremium.

Feedback:TheeuroCOULDbeworthmoreinsixmonths.Forwardratesgiveusagoodguess,butnotadefinitiveguaranteeofmarketconditionsinsixmonths.

4

ConsideringthespotandforwardratequotationsfortheSwissfrancbelow,calculatethethreemonthforwardpremiuminAmericanterms.Assume30–daymonthsand360–dayyears.

0.0353

A)

0.4235

B)

0.1364

C)

D)0.1412

Feedback:

Thisisincorrect. Seepage131.

5CORRECT

Intheforwardmarket,marketparticipantsagreeto

buyorsellforeigncurrencyinthefutureatpricesagreed–upontoday.

A)

buy(butnotsell)foreigncurrenciesinthefutureatpricesagreed–upontoday.

B)

paytodayforaspecificamountofforeigncurrencytobereceivedinthefuture.

C)

6

INCORRECT

D)buyandsellfixedamountsofforeigncurrencyatspotpricesthatwillprevailinthefuture.

Feedback:Correct!

Consideratraderwhotakesalongpositioninasix–monthforwardcontractontheeuro.Theforwardrateis$1.75=€1.00andthecontractsizeis€62,500.Atthematurityofthecontractthespotexchangerateis$1.65=€1.00.Inthissituationthetraderhas

lost

$625.

lost

$6,250.

made

$6,250.

lost

$66,287.88.

A)

B)

C)

D)

Feedback:Thetraderagreedtobuysomethingworth$1.65for$1.75.Helostadime,andlostit62,500times,whichequals$6,250.SeeExample5.4onpage131.

7

AnexchangeratequotedinAmericanterms

explainshowmanyunitsofforeigncurrencyyougetforoneU.S.dollar.

A)

explainshowmanyU.S.dollarsoneunitofforeigncurrencyisworth.

B)

isthesameastheindirectquotation.

C)

D)isthesameasthedirectquotation.

Feedback:ThisdescribesaquoteinEuropeanterms.

8

Thespotandforwardforeignexchangemarketis

anover–the–countermarket.

A)

open24/7somewhereintheworld.

B)

thelargestandmostactivefinancialmarketintheworld.

C)

D)Alloftheabove.

Noneoftheabove.

E)

Feedback:Whileitistruethattheforeignexchangemarketisanover –the–countermarket,answersBandCarealsotrue.Seepage112.

9

Thecurrentspotexchangerateis$1.45/andthethree–monthforwardrateis$1.55/.Baseduponyoureconomicforecast,youareprettyconfidentthatthespotexchangeratewillbe$1.50/inthreemonths.Assumethatyouwouldliketo buyorsell100,000.Whatactionswouldyoutaketospeculateintheforwardmarket?Howmuchwillyoumakeifyourpredictioniscorrect?

Takeashortpositioninaforwardcontracton100,000.Ifyou’rerightyouwillmake$15,000.

A)

Takealongpositioninaforwardcontracton100,000.Ifyou’rerightyouwillmake$5,000.

B)

Takeashortpositioninaforwardcontracton100,000.Ifyou’rerightyouwillmake$5,000.

C)

Takealongpositioninaforwardcontracton100,000.Ifyou’rerightyouwillmake$15,000.

Feedback:Thisisonlyhalfcorrect.“Shorts”makemoneywhentheunderlyingasset(inthiscasetheeuro)losesvalue.Totakeashortpositionisthecorrectthingtodo.Youwouldagreetoselleurosat$1.55;ifyoucanbuythemfor$1.50youmake$0.05.Dothat100,000timesandyoumake$5,000(not$15,000).

10

Restatethefollowingone–,three–,andsix–monthoutrightforwardAmericantermbid–askquotesinforwardpoints.

A)

B)

C)

D)Noneoftheabove.

Feedback:Correct!

SupposeinterestratesintheUnitedStatesare9.2%whenthespotexchangerateis$1.55=

€1andtheinterestrateintheeurozoneis5%peryear.Whatmusttheone-yearforwardexchangeratebe?

A)$1.612=€1

B)$0.6203=€1

C)$1=€1.612

D)$1.4904=€1

Feedback:Correct!

2

Duetotheintegratednatureoftheircapitalmarkets,investorsinboththeUnitedStatesandUnitedKingdomrequirethesameexpectedrealinterestrateof3%.Expectedannualinflationis2%intheU.S.and5%intheU.K.Thespotexchangerateiscurrently£1.00=$1.80.WhatarethenominalinterestratesintheU.K.andtheU.S.,assumingtheFishereffectholds?

3.0%inbothcountries.

A)

8.15%intheU.K.and5.06%intheU.S.

2.0%intheU.Kand1.0%intheU.S.

5.0%intheU.K.and8.0%intheU.S.

Feedback:

Thisisincorrect.Therealrateis3%inbothcountries,butthequestionasksforthenominalrate.Seeequation6.15:i$=?$+E(?$)+?$×E(?$)

3

SupposeU.S.inflationis3%,U.K.inflationis6%,andthespotexchangerateis£1=$2.Whatisyourestimateoftheexchangerateexpectedtoprevailin3years?

A)£1=$2.1855

B)£1=$2.00

C)£1=$1.8349

D)£1=$1.943

Feedback:

IfPPPholds,then(1+e)=(1+?$)/(1+?£).Ourestimateofnextyear'sexchangerateis

(1+e)×S.Continuingonforthreeyearswehave

$1.8349iscorrect.

.Thus,£1=

4CORRECT

SupposethatthespotexchangerateforJapaneseyenis¥122/$andthattheone-yearforwardexchangerateforJapaneseyenis¥130/$.Theone-yearinterestrateintheUnitedStatesis5%.WhatistheinterestrateinJapan?

A)11.89%

B)6.56%

C)3.28%

5CORRECT

D)1.67%

Feedback:Correct!

BasedontheexchangeratequotationsbelowfromTheWallStreetJournal,whichareahasthehighestnominalinterestrates?

A)Britain.

B)TheUnitedStates.

Theeurozone.

Thereisnotenoughinformationtosay.

Feedback:Correct!

6

SupposeyouobserveanexchangerateofS($/SFr)=0.85(i.e.,SFr1=$.85).Theone-year

forwardrateisF1($/SFr)=0.935(i.e.,SFr1=$.935).Therisk-freeinterestrateis5%inthe

U.Sand2%inSwitzerland.Howcanadollar-basedinvestormakemoney?

BorrowdollarsintheU.S.,exchangeforSwissfrancs,andinvestinSwitzerland.Inone

A)year,translatetheSwissfrancsbackintodollars.

BorrowSwissfrancs,translateintodollarsatthespot,andinvestintheU.S.at5%for

oneyear.Attheendoftheyear,translatepartofyourdollarinvestmentbackintoSwissfrancsattheforwardratetorepayyourSwissfrancdebt.

BorrowdollarsintheU.S.,exchangeforSwissfrancs,investinSwitzerland,andenter

intoaone-yearforwardcontracttosellfrancsfordollars.Inoneyear,translatetheSwissfrancsbackintodollarsattheforwardrate.

Therearenoprofitablearbitrageopportunities.

Feedback:

Youfailedtohedgeyourexchangerateriskbynotusingforwardcontracts.Ifyouinvest

$1,000intheU.S.,yourfuturevalueis$1,050.Ifyouexchange$1,000foreurosat$0.85=

€1youhave€1,176.47.Investedat2%thisgrowsto€1,200.Translatedbackintodollarsat

theforwardrateF1($/€)=0.935thisisworth$1,122.To"clipthearb"youshouldborrowintheU.S.andsendthosedollarsonaroundtriptoGermany.Attheendoftheyearyouwill

7

Supposeyouobservethefollowingexchangerates:S($/€)=1.50(i.e.,€1=$1.50).Theone-

yearforwardrateisF1($/€)=1.55(i.e.,€1=$1.55).Therisk-freeinterestrateis5%inthe

U.S.and2.5%intheeurozone.Howcanaeuro-basedinvestor(withgoodcreditathomeand

abroad)makemoney?

Borrow$1,000intheU.S.at5%,exchangeforeurosatthespotrate,andinvestinthe

A)eurozoneat2.5%.Attheendofoneyear,buy$1,050witheuro.

have$1,122inrevenueand$1,050inexpenses.

Borrow€1,000,translateintodollarsatthespot,andinvestintheU.S.at5%forone

B)year.Attheendoftheyear,translateyourdollarinvestmentbackintoeurosattheforwardratetorepayyoureurodebt.

C)

Borrow$1,000intheU.S.at5%,exchangeforeurosatthespotrate,andinvestintheeurozoneat2.5%.Enterintoashortforwardcontracttobuy$1,050at€.6452per$.Inoneyear,exchange€677.42backinto$1,050attheforwardratetorepayyourdollarborrowing.

D)Therearenoprofitablearbitrageopportunities.

Feedback:

Youfailedtohedgeagainstexchangerateriskbyusingtheforwardcontract.Youare

makingabetthatthespotexchangerateinoneyearwillbe

That'snotasgoodofaninvestmentasanswerC,whichisanarbitrage.

ormore.

8

INCORRECT

Purchasingpowerparity(PPP)theoryprovidesthat

thecostofahaircutinColumbia,Missourishouldbeexactlythesameasthecostofa

A)haircutinHongKong.

ratesofinflationmustbethesameeverywhere.

spotexchangeratesarethebestpredictorofexpectedinflationrates.

thecostofaBigMacsandwichshouldbereflectedinthecostoftwoall-beefpatties,

specialsauce,lettuce,cheese,pickles,onions,andasesameseedbun.

Noneoftheabove.

E)

9

INCORRECT

Feedback:PPPtheorystatesthattheexchangeratebetweencurrenciesoftwocountriesshouldbeequaltotheratioofthecountries'pricelevels.Laborservicescouldbepriceddifferentlyinthetwocountries.

Duetotheintegratednatureoftheircapitalmarkets,investorsinboththeU.S.andtheU.K.requirethesamerealinterestrateof3%.Expectedannualinflationis2%intheU.S.and5%intheU.K.Thespotexchangerateiscurrently£1.00=$1.80.Calculatetheexpectedspotdollar-poundexchangerateexpectedtoprevailinoneyear,assumingtheFishereffectholds.

A)£1.00=$1.8000

B)£1.03=$1.8540

C)£1.00=$1.8540

D)£1.00=$1.7486

Feedback:

Tofindtheexpectedspotratetheeasyintuitiveway,startwiththespotrateandinflatethedollarsatthedollarrateofinflationandthepoundsatthepoundrateofinflation:

.Tofindtheforwardratethehardway,useEquations6.15and6.16(nottheapproximateform).

10

INCORRECT

Duetotheintegratednatureoftheircapitalmarkets,investorsinboththeU.S.andtheU.K.requirethesameexpectedrealinterestrateof3%.Expectedannualinflationis2percentintheU.S.and5%intheU.K.Thespotexchangerateiscurrently£1.00=$1.80.Whatistheforwarddollar-poundexchangerateforone-yearmaturity?

A)£1.00=$1.7500

£1.00=$1.7486

B)

C)£1.03=$1.8540

D)£1.00=$1.8500

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You'reroundingtoomuch.Setyourcalculatordisplaytoshow4placestotherightofthedecimal.Tofindtheforwardratetheeasyway,startwiththespotrateandinflatethedollarsatthedollarrateofinflationandthepoundsatthepoundrateofinflation:

Tofindtheforwardratethehardway,useEquations6.15and6.16(nottheapproximateform).

INCORRECT

INCORRECT

Acalloption

isacontracttobuyacertainquantityofaspecificunderlyingassetataspecific

priceataspecifieddateinthefuture.

givestheholdertheright,butnottheobligation,toselltheunderlyingassetfora

statedpriceoverastatedtimeperiod.

isanexchange-tradedcontracttobuyacertainquantityofaspecificunderlying

assetataspecificpriceataspecifieddateinthefuture.

givestheholdertheright,butnottheobligation,tobuytheunderlyingassetfora

statedpriceoverastatedtimeperiod.

Feedback:Thisisthedefinitionofalongpositioninaforwardcontract.

Consideraputoptionwrittenon€100,000.Thestrikepriceis$1.50=€1.00andtheoptionpremiumis$0.02pereuro.Whatisthetheoreticalmaximumgainonthisposition?

A)Thereisunlimitedupsidepotential.

B)$80,000C)$148,000

INCORRECT

D)$2,000

Feedback:Theholderofaputoptionhastherighttoforcesomeonetopayhim$1.50for€1.00.Havingpaid$0.02forthatright,thebesthecanhopeforisaprofitof

$1.48pereuro100,000times,oraprofitof$148,000.

Consideratraderwhoopensashortfuturesposition.Thecontractsizeis£62,500,thematurityissixmonths,andtheinitialpriceis$1.50=£1.Thenextday,thesettlementp