Question

You are a Japanese citizen and want to profit by using a forward contract since your expectations of the spot rate 30 days hence is different than the current 30 day forward rate. In particular, the 30 day forward rate is 90 yen/$ and you expect the spot rate, 30 days hence, to be 100 yen/$. Assuming your expectations are correct, explain exactly how you could use the forward market to make a profit. Assume you have 900 yen to invest. Be sure to identify the profit in yen and your return in terms of the percent of your original investment

Answer 1

30 days forward rate is 90 yen/$

Spot rate 30 days hence is 100 yen/$

Amount to invest= 900 yen.

Profit in yen is as per below.

As per 30 days forward rate 900 yen is equal to $10 basis 90 yen/$

900 yen is equal to $9 basis 30 days hence spot rate

Profit= 100 yen since due to forward contract i gain $1($10-$9) Since as per forward rate 900 yen=$10 and spot rate 900 yen= $9

Return in percent = Profit/original investment x 100

Return in percent =100/900x100

= 11.11%