Forces of Covered Interest Arbitrage Assume that the one-year interest rate in Canada is 4 percent. The one-year U.S. interest rate is 8 percent. The spot rate of the Canadian dollar (CS) is $0.94. The forward rate of the Canadian dollar is $0.98 Is covered interest arbitrage feasible for U.S. investors? To support your answer, show the results if a U.S. firm engages in covered interest arbitrage. Assume that the spot rate and interest rates remain unchanged as U.S. investors attempt to engage in covered interest arbitrage. Do you think the forward rate of the Canadian dollar will be affected? If so, state whether it will increase or decrease, and explain why.

FindFind

International Financial Management

14th Edition
Madura
Publisher: Cengage
ISBN: 9780357130698
FindFind

International Financial Management

14th Edition
Madura
Publisher: Cengage
ISBN: 9780357130698

Solutions

Chapter 7, Problem 57QA
Textbook Problem

Forces of Covered Interest Arbitrage Assume that the one-year interest rate in Canada is 4 percent. The one-year U.S. interest rate is 8 percent. The spot rate of the Canadian dollar (CS) is $0.94. The forward rate of the Canadian dollar is $0.98

  1. Is covered interest arbitrage feasible for U.S. investors? To support your answer, show the results if a U.S. firm engages in covered interest arbitrage.
  2. Assume that the spot rate and interest rates remain unchanged as U.S. investors attempt to engage in covered interest arbitrage. Do you think the forward rate of the Canadian dollar will be affected? If so, state whether it will increase or decrease, and explain why.

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