Suppose the annual interest rate is 3.5% in U.S. and 2.5% in euro, and that the spot exchange rate is S($/euro) = 1.2405 and the forward exchange rate with 12-month maturity is F12($/euro) = 1.2635. Assume you are a U.S. trader and can borrow up to $1,000,000 (or euro1,000,000). Answer the following questions.
a. Is there an arbitrage opportunity according to the Interest Rate Parity based on the above information? (show your work!)
b. Show the strategy to capture the arbitrage profit by setting up a transaction table. Listing the required transactions and cash flows (including cash flow signs and currency symbols). Your arbitrage profit should be in U.S. dollar.