Suppose it is January 1, 1998 and spot pounds are selling at $1.7342, while 90 d

Question

Suppose it is January 1, 1998 and spot pounds are selling at $1.7342, while 90 day forward pounds are selling at $1.7156. At the same time, DM spot and 90 day forward rates are $0.6138 and $0.6014, respectively. According to these quotes the

a) pound is selling at a 3.87% forward discount relative to the DM

b) pound is selling at a 2.37% forward premium relative to the DM

c) DM is selling at a 0.97% forward discount relative to the pound

d) DM is selling at a 1.54% forward premium relative to the pound

The answer is a, could you explain the process to me?

Explanation / Answer

Forward rate =Spot*exp(r*t)

Where r= rate of interest and t= time in years

R=(1/t)*(ln(Forward rat/Spot rate))

For pound r=(360/90)*(ln(1.7156/1.7342))= -4.3%

For DM r=(360/90)*(ln(0.6014/0.6138))= -8.17%

Pound interest rate-DM interest rate=-4.3-(-8.17)=3.87%

Thus Pound is selling at a 3.87% forward discount relative to the DM

Option A

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