IRP, PPP, and Speculation The U.S. three-month interest rate (unannualized) is 1 percent. The Canadian three-month interest rate (unannualized) is 4 percent. Interest rate parity exists. The expected inflation over this period is 5 percent in the United States and 2 percent in Canada. A call option with a three-month expiration date on Canadian dollars is available for a premium of $0.02 and a strike price of $0.64. The spot rate of the Canadian dollar is $0.65 Assume that you believe in purchasing power parity. Determine the dollar amount of your profit or loss from buying a call option contract specifying C$100,000. Determine the dollar amount of your profit or loss from buying a futures contract specifying C$100,000.

FindFind

International Financial Management

14th Edition
Madura
Publisher: Cengage
ISBN: 9780357130698
FindFind

International Financial Management

14th Edition
Madura
Publisher: Cengage
ISBN: 9780357130698

Solutions

Chapter 8, Problem 34QA
Textbook Problem

IRP, PPP, and Speculation The U.S. three-month interest rate (unannualized) is 1 percent. The Canadian three-month interest rate (unannualized) is 4 percent. Interest rate parity exists. The expected inflation over this period is 5 percent in the United States and 2 percent in Canada. A call option with a three-month expiration date on Canadian dollars is available for a premium of $0.02 and a strike price of $0.64. The spot rate of the Canadian dollar is $0.65 Assume that you believe in purchasing power parity.

  1. Determine the dollar amount of your profit or loss from buying a call option contract specifying C$100,000.
  2. Determine the dollar amount of your profit or loss from buying a futures contract specifying C$100,000.

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