The Spot Rate and Arbitrage Possibilities
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Please help with the following problems. Provide step by step calculations along with explanations.
Given the following: Spot rate = $0.75/DM
Forward rate (1 yr) = $.077/DM
Interest rate (DM) = 7% per year
Interest rate ($) = 9% per year
1. If there are no transaction costs or taxes what are the possibilities for arbitrage profits?
2. If there is a transaction cost of .25% per transaction are there still possibilities for arbitrage profits?
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Solution Summary
This solution helps with a question about arbitrage pricing theory. Calculation showing the possibilities for arbitrage profits and if there is a possibility when the transaction costs .25%. The explanation is given in 164 words.
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1. If there are no transaction costs or taxes what are the possibilities for arbitrage profits?
The annual dollar return on dollars invested in Germany is (1.07 x 0.77)/0.75 - 1 = 9.85%. This return exceeds the 9% return on dollars invested in the ...
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