Covered Interest Arbitrage. Assume the following information:
* British pound spot rate = $1.65.
* British pound one-year forward rate = $1.65
* British one-year interest rate = 12 %.
* U.S. one-year interest rate = 10 %.
Explain how U.S. investors could use covered interest arbitrage to lock in a higher yield than 9 percent. What would be their yield? Explain how the spot and forward rates of the pound would change as covered interest arbitrage occurs.