Problem: The U.S. three-month interest rate (unannualized) is 1%. The Canadian three-month interest rate (unannualized) is 4%. Interest rate parity exists. The expected inflation over this period is 5% in the U.S. and 2% in Canada. A call option with a three-month expiration date on Canadian dollars is available for a premium of $.02 and a strike price of $.64. The spot rate of the Canadian dollar is $.65. Assume that you believe in purchasing power parity.
1) Determine the dollar amount of your profit or loss from buying a call option contract specifying C$100,000.
2) Determine the dollar amount of your profit or loss from buying a futures contract specifying C$100,000.