Forward rate = S0/(1+rf)^t * (1+r)^t
There is quite a misunderstanding over how this figure came in.
Obviously it has been derived from:
F/(1+r)^t - S0/(1+rf)^t = 0
It is understood regarding the F/(1+r)^t being discounted since it is the future rate at expiration.
It is hard to understand that if S0 is multipled by 1/(1+rf)^t (units of foreign currency) this will give the value of units in domestic currency… which is not actually the exchange rate. So how does this part come into the equation??作者: Siddimaula 时间: 2013-4-6 04:34
it is the borrowing and lending that is causing this…
you borrow S0 amount, invest in the Spot Rate to get X units of foreign currency.
That is invested forward at the rfc rate (foreign rate).
to arrive at the forward point.
Convert at the forward rate
compare this to Spot amount invested forward at the domestic rate.
