Please show the work. thanks a. hypothesis holds. The one-year interest rate is
ID: 2793087 • Letter: P
Question
Please show the work. thanks
a. hypothesis holds. The one-year interest rate is approximately 2% in the USA and 6% in New Zealand. If the expected inflation rate is 5% in the USA, what is the expected inflation rate in New Zealand? (5 points) A firm wants to use an option to hedge 750,000 Euros in receivables. The premium paid is US$0.02/Euro and the exercise price is US1.4/Euro. If the option is exercised, what is the total dollar amount received after accounting for the premium paid? (Ignore all other transaction costs and the time value of the money for the premium paid.) (S points)Explanation / Answer
1.If International Fisher effect hold good ie., Inflation difference between USA and New Zealand is approximately equal to Interest rate difference.
The difference in one year interest rate = 6-2= 4%
Therefore expected inflation in New Zealand= 5+4= 9%
2. Firm has 750000 Euro receivable, it is afraid of Euro to fall.
It will buy a put option on Euro
Premium paid= $0.02 per Euro
Exercise price= $1.4 per Euro.
If option exercised , Inflow will be.
(750000× 1.40)- (750000× 0.02)
1050000-15000= $ 1035000