Currency sensitivity question - I'm lost question, suddenly, currency, exchange, investor

BC_MBA_student

Question from Schweser sample exams, told from point of view of a UK investor

Sensitivity of Slapshot (the Canadian stock) to changes in the Pound/Canadian $ exchange rate = 1.4.

Suppose the C$ suddenly depreciates by 10% against the Pound. What is most likely to happen to the C$ value of Slapshot in response to this sudden exchange rate change?

A) local currency value will fall 10%

B) local currency value will fall 4%

C) local currency would be unchanged

The answer is B

I'm totally lost on this material

Here's the explanation: The sensitivity is a function of the CAD reaction, specifically the sensitivity of the currency return is equal to y(CAD) + 1. Since y = 1.4, y(CAD) must be .4



Edited 1 time(s). Last edit at Wednesday, May 26, 2010 at 11:22AM by CFA.Rhythm.

profil

Alright, I understand. Sorry for the drama.

Basically:

domestic currency exposure of an asset = foreign currency exposure +1

1.4 = local exposure + 1

local exposure = .4

there you have it

giorgio10

First, thanks for responding:

ok. Here's where I am confused.

We have a UK investor.

We have a Canadian stock.

We have the formula: domestic currency exposure of an asset = foreign currency exposure +1

---------

My questions:

1) I knows this sounds really lame, but who/what is the domestic exposure?

2) Who/what is the the foreign currency exposure

3) Who/what is the "local" currency exposure?

tarunajwani

Currency exposure is in the ICAPM reading.

Specifiacally:

domestic currency exposure of an asset = foreign currency exposure +1

since the domestic currency exposure is 1.4 (point of view of UK investor) and we are looking for the foreign currency exposure (exposure of C$) then:

1.4 = Exposure C$ + 1 or rather the Exposure C$ = .4