Question

Assume the following information: Interest rate on borrowed euros is 5 percent annualized Interest rate on dollars loaned out is 6 percent annualized Spot rate for 0.8333 per dollar (one = $1.20) Expected spot rate in five days is 0.85 per dollar Alonso Bank can borrow 10 million What is the euro profit to Alonso Bank over the five-day period from shorting euros and going long on dollars?

A. 150,311.11

B. 177,111.11

C. 201,555.56

D. 256,323.33

Answer 1

Answer is c) 201,555.56

Shorting euros - borrowed funds in euro 10 million for 5 days @ 5% p.a.

Repayment of borrowed after 5 days =

Eur 10 million * 5% * 5/360 days = EUR 10,006,944.444

Going long on dollars - loaned out $

Borrowed EUR 10 million will loaned out in $ @ 1 EUR = 1.20 $

Will get in $ after 5 days,

= (EUR 10,006,944.444 * $1.20/1 EUR) * ( 1 + (6% * 5 /360 days))

= $ 12,010,000

Will convert $12,010,000 into EUR to repay borrowed funds

= $ 12,010,000 * EUR 0.85/$1

= EUR 10,208,500

Net profit from transaction

= EUR 10,208,500 - EUR 10,006,944.444

= EUR 201,555.56