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If the current exchange rate is $1
If the current exchange rate is $1.95/£, the one-year forward exchange rate is $2.05/£, and the interest rate on British government bills is 7% per year, what risk-free dollar-denominated return can be locked in by investing in the British bills? (Do not round intermediate calculations. Round your answer to 2 decimal places.)
Risk-free dollar-denominated return = %
Expert Solution
Computation of Risk-free dollar-denominated return:
Let the r be risk free dollar denominated return.
(1+ r)=(1+ UK Interest Rate)*(Forward Rate/Spot Rate)
(1+ r)=(1+0.07)*(2.05/1.95)
(1+ r)=1.1249
r = 1.124872-1
r = 0.1249 or 12.49%
So, Risk-free dollar-denominated return is 12.49%.
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