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The spat rate betwein Canada and the U

Finance

The spat rate betwein Canada and the U.S.is Can$1.2410/${1 USD 1.2410 CAD) while the one-year forward rate is Can$1.56/$. The risk-free rate in Canada is 4.39 percent and risk-free rate in the United States is 2.64 percent. An arbitrage opportunity exists. An arbitrageur can take a ___position in the forward contract and then take the opposite position in the spot market. Note: The party agreeing to buy the underlying asset in the future assumes a long position, and the party agreeing to sell the asset in the future assumes a short position. long short

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As Interesr Rate Parity ( IRP) =

F/S = 1 + Interest of Home Currency / 1 + Interest rate of Foreign Currency

Where,

F = Forward Price

S = Spot Price

Here Home currency is Canadin Dollar

So,

Theoritical Forward = 1.24 * 1.0439 / 1.0264 = $ 1.2611

Actual Forward = $ 1.56

Since Forward is Overvalued we would sell Forward i.e. Short Forward and buy Stock i.e. Go long on Stock

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