dirk01

George Canyon, CFA, an international trader and analyst with Canyon Peak Trading, is considering trading in the Chinese yuan. Canyon is considering the use of the international Fisher relation in his analysis of China. One concern that Canyon should consider is that the international Fisher relation assumes that:

A) nominal interest rates are stable across time and international borders.

B) real exchange rates are stable across time and international borders.

C) real interest rates are stable across time and international borders.

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The international Fisher relation specifies that the interest rate differential between two countries should be equal to the expected inflation differential. This means countries with higher expected inflation will have higher nominal interest rates. The condition assumes that real interest rates are stable over time and equal across international borders.

dirk01

Simon Peak, CFA, an international trader and economist with Canyon Peak Trading, is analyzing the inflation and interest rates trends for China. Peak is interested in taking a trading position in interest rate sensitive instruments. If Peak is to assume that the differences in inflation rates are substantially similar to the differences in interest rates, which theory does he prescribe to?

A) Relative purchasing power parity.

B) Asset markets approach.

C) International Fisher relation.

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The international Fisher relation specifies that the interest rate differential between two countries should be equal to the expected inflation differential. This means countries with higher expected inflation will have higher nominal interest rates.

dirk01

Donna Ackerman, CFA, is an analyst in the currency trading department at State Bank. Ackerman is training a new hire, Fred Bos, a recent college graduate with a BA in economics.
Ackerman asks Bos to attempt to estimate the inflation rate in the U.S. based on the following data:

• the spot exchange rate between the GBP and the USD is $0.500.
• the forward exchange rate is $0.520.
• the British rate of inflation is 4%.

Bos calculates the rate of U.S. inflation as:

A) 0%.

B) 8.2%.

C) 4.2%.

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According to the Interest Rate Parity, Purchasing Power Parity, and the International Fisher Relationship, the interest rate differential must equal the inflation differential, and we assume that the forward rate is an unbiased estimator of the future spot rate.
1 + US inflation = (0.520 / 0.500)(1.04) = 1.082, thus US inflation = 8.2%.

dirk01

George Canyon, CFA, an international trader and analyst with Canyon Trading, wants to use the international Fisher relation to determine his trading strategies for the Chinese yuan. Based on his analysis, the expected inflation rate is 7% and the real interest rate is 3%. In order to determine a price for certain corporate debt Canyon is interested in buying, he will use the exact method of the international Fisher relation. Therefore, the nominal interest rate that he should use is:

A) 4.0%.

B) 10.0%.

C) 10.2%.

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Using the international Fisher relation: (1 + r) = (1 + real r) × (1 + E (i))

Where:
r = nominal interest rate
real r = real interest rate
E (i) = expected inflation

The nominal interest rate is:
(1 + r) = (1 + 0.03) × (1 + 0.07)
(1 + r) = (1.102)
r = 0.102 or 10.2%

dirk01

George Canyon, CFA, an international trader and analyst with Canyon Trading, wants to use the international Fisher relation to determine his trading strategies for the Chinese yuan. Based on his analysis, the expected inflation rate is 7% and the real interest rate is 3%. In order to determine a price for certain corporate debt Canyon is interested in buying, he will use the exact method of the international Fisher relation. Therefore, the nominal interest rate that he should use is:

A) 4.0%.

B) 10.0%.

C) 10.2%.

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Using the international Fisher relation: (1 + r) = (1 + real r) × (1 + E (i))

Where:
r = nominal interest rate
real r = real interest rate
E (i) = expected inflation

The nominal interest rate is:
(1 + r) = (1 + 0.03) × (1 + 0.07)
(1 + r) = (1.102)
r = 0.102 or 10.2%

dirk01

If the expected inflation is 100% and the real required rate of return is 6%, the nominal interest rate according to the exact form of the Fisher effect is closest to:

A) 12.0%.

B) 6.0%.

C) 112.0%.

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According to the Fisher effect, the relationship between the nominal interest rate and the real interest rate and the expected inflation rate is (1 + r) = (1 + real r)[1 + E(i)]; therefore, the problem yields 1 + r = (1.06)(2) = 2.12, or r = 112%.

dirk01

Jennifer Nance has recently been hired as an analyst at the Central City Bank in the currency trading department. Nance, who recently graduated with a degree in economics, will be working with other analysts to determine if there are profit opportunities in the foreign exchange market.
Nance has the following data available:

	US Dollar ($)	UK Pound (£)	Euro (€)
Expected inflation rate	6.0%	3.0%	7.0%
One-year nominal interest rate	10.0%	6.0%	9.0%

Market Spot Rates
	US Dollar ($)	UK Pound (£)	Euro (€)
US Dollar ($)	$1.0000	$1.6000	$0.8000
UK Pound (£)	0.6250	1.0000	2.0000
Euro (€)	1.2500	0.5000	1.0000

Market 1-year Forward Rates
	US Dollar ($)	UK Pound (£)	Euro (€)
US Dollar ($)	$1.0000	$1.6400	$0.8082
UK Pound (£)	0.6098	1.0000	2.0292
Euro (€)	1.2373	0.4928	1.0000

Using the same data above, Nance wishes to determine the order of the real interest rate levels implied by the Fisher Effect in the United States, the United Kingdom and Europe. What is the order of real interest rate levels, ranked from highest to lowest?

A) United States, Europe, United Kingdom.

B) United Kingdom, United States, Europe.

C) United States, United Kingdom, Europe.

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The Fisher Effect implies that the real interest rate is equal to [(1 + nominal interest rate) / (1 + inflation rate)] − 1.
The implied real rates, ranked in order from highest to lowest, are:
United States: [(1.10) / (1.06)] − 1 = 3.8%.
United Kingdom: [(1.06) / (1.03)] − 1 = 2.9%.
Europe: [(1.09) / (1.07)] − 1 = 1.9%.

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Using the same data above, Nance determines that the highest estimate of the expected $/£ spot rate in one year is implied by:

A) purchasing power parity (PPP).

B) uncovered interest rate parity (IRP).

C) the Fisher effect.

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Uncovered IRP: expected 1 − year spot rate = $1.6000(1.10) / (1.06) − 1 = $1.6604.
PPP: expected 1 − year spot rate = $1.6000(1.06) / (1.03) − 1 = $1.6466.
The Fisher effect does not imply a forecast of the expected future spot rate.

dirk01

The Asian Spec Fund, managed by Jonathan Khamal, CFA, engages in currency speculation for its clients. Khamal believes that there is an opportunity to speculate on the Malaysian Ringgit. He believes that the international Fisher relation holds for most currencies on the assumption that real interest rates are constant among developed and emerging countries, but may not hold for Malaysia. The Malaysian nominal interest rate is 7.6% and the annual inflation rate is 4.5%. According to his calculations, the Malaysian real interest rate is:

A) 2.97%.

B) 3.50%.

C) 3.97%.

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According to the international Fisher relation:

(1 + Nominal interest rate) = (1 + real interest rate) × (1 + inflation rate)

By substituting, solve for the real interest rate:

(1 + 0.076) = (1 + r) × (1 + 0.045)
(1 + r) = 1.076/1.045
(1 + r) = 1.0297
r = 2.97%

dirk01

Chao Wong, CFA, is the portfolio manager for the China Current Fund. He is concerned with the direction of inflation and its effects on interest rates in China. He wants to compare real interest rates across different countries in Asia to see if real interest rates hold according to the international Fisher relation. First, he needs to compute the real interest rate for China. The Chinese nominal interest rate is 10.2% and inflation is currently pegged at 7%. According to his calculations, the Chinese real interest rate is:

A) 2.99%.

B) 3.50%.

C) 1.03%.

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According to the international Fisher relation:

(1 + Nominal interest rate) = (1 + real interest rate) × (1 + inflation rate)

By substituting, solve for the real interest rate:

(1 + 0.102) = (1 + r) × (1 + 0.07)
(1 + r) = 1.102/1.07
(1 + r) = 1.0299
r = 2.99%

dirk01

Michael Zotov, CFA, is the economist and portfolio manager of the Zotov Investment Fund. Zotov believes that the Polish economy is due for a significant recovery as a result of governmental austerity programs enacted this year. Nominal interest rates and inflation have begun to trend lower. He wants to be sure that the real interest rate, the real cost of money in Poland, has also declined. The Polish nominal interest rate is 12.3%, while inflation holds at 9%. Assuming the international Fisher relation holds, the Polish real interest rate is:

A) 3.03%.

B) 1.03%.

C) 2.93%.

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According to the international Fisher relation:

(1 + Nominal interest rate) = (1 + real interest rate) × (1 + inflation rate)

By substituting, solve for the real interest rate:

(1 + 0.123) = (1 + r) × (1 + 0.09)
(1 + r) = 1.123/1.09
(1 + r) = 1.0303
r = 3.03%