Question

In South African, a zero coupon bond with a face value of 150,000 Rand is currently trading at a discount at 90,000 Rand, You are a Danish investor and would like to invest in South Africa. Unfortunately, there is not an active currency market for Danish Krone and South African Rand. You can, however, buy and sell US dollars at the rate 6 Danish Krone, and the dollar is trading at 18 Rand. You expect, over the course of the year, the Krone to appreciate slightly against the dollar, to 5 Danish Krone. The Rand, however, is expected to fall and the dollar will trade at 20 Rand.

Given the information, what sort of return would you expect in this asset? (Keep in mind you are in Denmark and the return you are interested in is in term of Krone)

Answer 1

Hello Students,

First thing is that now we are not focusing on the maturity value of the zero coupon bond, as the maturity period is not mentioned in the question.

We are assuming revenue on the exchange rate after one year:-

Now presently the investor is from from Denmark and he need to buy USD for this investment:-

90000 Rand = 5000 USD (18 Rand per USD)

AND 5000 USD = 30000 Danish Krone (6 Danish Krone per USD)

After one year

90000 Rand = 4500 USD (20 Rand per USD)

AND 4500 USD= 22500 Danish Krone (5 Danish Krone per USD)

So at the time of Investment we are investing 30000 Danish Krone and after one year we are getting 22500 Danish Krone.

There will be negative impact in the asset and loss of 30000-22500 = 7500 Danish Krone