Finance Forum Responses
I need a 125-word reply to each of the following four main forum responses (500-words total) Finance Class.
Forum 1
Foreign exchange markets encompass the conversion of purchasing power from one currency to another, bank deposits of foreign currency, the extension of credit denominated in a foreign currency, foreign trade financing, trading in foreign currency options and futures contracts, and currency swaps (Eun & Renick, 2015). These markets are made up of banks, commercial companies, central banks, investment management firms, hedge funds, and retail forex brokers and investors and is considered the largest financial market in the world (Investopedia, 2016).
The spot market involves more or less immediate purchase or sale of foreign exchange and accounted for 41% of foreign exchange trades in 2013 (Eun & Renick, 2015). Forward rates are quoted on most major currencies for a variety of maturities ranging from one month all as far out as 10 years (2015)! I view the spot market as operating similar to stock trading making quick transactions whereas the forward market is similar to the bond market. Like the bond market, the forward market trades at a premium or a discount depending on how it aligns with spot rates. Also similar to the blue chip stocks of the stock market, major currencies are more predictable and fluctuate less than say unstable or developing currencies which are somewhat like newer companies.
References
Eun, C., & Renick, B. (2015). International Financial Management, Seventh Edition. New York, NY:McGraw-Hill Education.
Investopedia. (2016, July 18). Foreign Exchange Market. Retrieved from Investopedia: https://www.investopedia.com/terms/forex/f/foreign-exchange-markets.asp
Forum 2
Our text defines foreign exchange market (FX) as "encompassing the conversion of purchasing power from one currency into another, bank deposits of foreign currency, the extension of credit denominated in a foreign currency, foreign trade financing, trading in foreign currency options and futures contract, and currency swaps. "(Eun, Resnick,2015). The foreign exchange market is the market in which participants are able to buy, sell, exchange and speculate on currencies. Foreign exchange markets are made up of banks, commercial companies, central banks, investment management firms, hedge funds, and investors. Numerous factors determine exchange rates, and all are related to the trading relationship between two countries. Exchange rates are relative, and are expressed as a comparison of the currencies of two countries. Interest rates, inflation and exchange rates are all highly correlated. By manipulating interest rates, central banks exert influence over both inflation and exchange rates, and changing interest rates impact inflation and currency values. Higher interest rates offer lenders in an economy a higher return relative to other countries.
References
Eun, C. S., & Resnick, B. G. (2015). International financial management (7th ed.). New York: McGraw-Hill Irwin. ISBN: 9780077861605
Forum 3
Alright, so we are buying a Jaguar, what is the most fiscally intelligent way to pay for it? We must find the best choice between option A and option B, so let's determine their respective cost. The Jaguar costs £35,000, payable in three months. I have enough cash at your bank in New York City, which pays 0.35 percent interest per month, compounding monthly, to pay for the car. Currently, the spot exchange rate is $1.45/£ and the three-month forward exchange rate is $1.40/£. In London, the money market interest rate is 2.0 percent for a three-month investment.
Option A Keep the funds at your bank in the United States and buy £35,000 forward. So the present value based on the forward rate is 35,000 x 1.40 = $49,000. The actual cost is 49,000/(1.0035)^3 = $48489.08
Option B Buy a certain pound amount spot today and invest the amount in the U.K. for three months so that the maturity value becomes equal to £35,000. So the present value based on the money market interest rate is 35,000/1.02= 34,313.73. The actual cost is 34,313.73 x 1.45 = $49,754.90
So the difference is (Option B - Option A) $49,754.90 - $48,489.08 = $1,265.82. I would select the cheaper Option A and save $1,365.82
Forum 4
The problem situation is summarized as follows:
A/P = £35,000 payable in three months
NY = 0.35%/month, compounding monthly
LD = 2.0% for three months
S = $1.45/£; F = $1.40/£.
Option a:
When you buy £35,000 forward, you will need $49,000 in three months to fulfill the forward contract. The present value of $49,000 is computed as follows:
$49,000/(1.0035)3 = $48,489.
Therefore, the cost of Jaguar as of today is $48,489.
Option b:
The present value of £35,000 is £34,314 = £35,000/(1.02). To buy £34,314 today, it will cost $49,755 = 34,314x1.45. Thus the cost of Jaguar as of today is $49,755.
I would definitely choose "option a", and save $1,266, which is the difference between $49,755 and $48489.