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Session 18

Session 18. Forward Exchange and International Financial Investment. Exchange Rate Risk. 25 Bath/ 1 dollar. Money. Goods. Negotiate to buy goods today. Thai Importer. Agreement bases on paying in dollar. U.S Exporter.

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Session 18

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  1. Session 18 Forward Exchange and International Financial Investment

  2. Exchange Rate Risk 25 Bath/ 1 dollar Money Goods Negotiate to buy goods today ThaiImporter Agreement bases on paying in dollar U.SExporter What would happen if the money will be paid in the next 3 months by using the spot rate on the due date ? Could .“Lost”(i.e. if 26 Bath/ 1 dollar)

  3. 25 Bath/ 1 dollar Money Goods Negotiate to buy goods today Agreement bases on paying in bath ThaiImporter U.SExporter What would happen if the money will be paid in the next 3 months by using the spot rate on the due date ? Could .“Lost”(i.e. if 24 Bath/ 1 dollar)

  4. Basic Approach to Avoid Exchange Rate Risk Difference = Importer lost Interest Interest Borrowthe money(Thai Baht) ThaiImporter U.SExporter Bank Exchange “Baht” to “Dollar” Sometimes in the future Deposit in dollar Negotiate to buy goods today Bank Agreement bases on paying in dollar

  5. Thai bath is returned by due date Interest Difference = Exporter lost Interest ThaiImporter Borrowthe money(Thai Baht) U.SExporter Exchange “Baht” to “Dollar” Bank Negotiate to buy goods today Deposit in dollar Agreement bases on paying in baht Bank Thai bath is paid by due date

  6. The Market Basics of Forward Foreign Exchange 25 Bath/ 1 dollar The agreement to exchange on currency for another in some date in the future at a price set now (the Forward Exchange Rate). Forward Foreign exchange contract(to buy) ThaiImporter U.SExporter Sometimes in the future(Normally, 30, 90, and 180 days Fee Negotiate to buy goods today Bank Agreement bases on paying in dollar Hedging Using Forward Foreign Exchange

  7. Thai bath is sold by due date 25 Bath/ 1 dollar Dollar is returned Forward Foreign exchange contract(to Sell) ThaiImporter U.SExporter Negotiate to buy goods today Bank Agreement bases on paying in baht Thai bath is paid by due date

  8. Speculating Using Forward Foreign Exchange Bull Speculator Bull Market Expect the value of other currency will appreciate.(i.e., from 25 baht/ 1dollar to 24 baht/1dollar BullSpeculator(US) Buy other currency(Thai bath*) Bank Other currency will be sold sometimes in the future(Baht will be sold) Right prediction = profit Wrong prediction = lost Bank *In the meantime, this amount of money will be deposited in the bank for the interest

  9. Bear Speculator Bear Market Expect the value of other currency will depreciate.(i.e., from 25 baht/ 1dollar to 26 baht/1dollar BearSpeculator(US) Exchange it intoits currency by using spot rate(Thai bath to dollar*) Borrow other currency(Thai bath) Bank Sometimes in the future, their own currency will be exchanged back into other currency; and other currency be will returned to the bank. In this case, the rest of other currency is profit.(Dollar to bath ; and bath will be returned) Right prediction = profit Wrong prediction = lost *In the meantime, this amount of money will be deposited in the bank for the interest.

  10. Financial Investment on Spot Exchange Rate Basis Sell & Buyon spot rate basis Current $ Current £

  11. Financial Investment on Forward Exchange Rate Basis Buy $ (Sell £ for $) Future £ Future $ Buy £ (Sell $ for £) Invest in the U.S. Borrow in the U.S. Invest in the U.K. Borrow in the U.K. Current $ Current £

  12. Interest Arbitrage 1) Covered Interest Arbitrage The process for buying a country’s currency spot and selling that country’s currency forward; this is the risklessprocedure which could also make a net profit from the combination of the different in interest rates between countries and the forward premium on that country’s currency. 2) Uncovered Interest Arbitrage The process for buying a country’s currency spot and selling that country’s currency without forward ; this is the high-risk procedure which could also make a net profit from the combination of the different in interest rates between countries and the forward premium on that country’s currency.

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