Professional Documents
Culture Documents
Intl 7
Intl 7
INTERNATIONAL ARBITRAGE
T7-2
TYPES OF ARBITRAGE
Locational Arbitrage
Triangular Arbitrage
Covered Interest Arbitrage
T7-3
LOCATIONAL ARBITRAGE
B .65
A .67
Buy at .67, sell at .68
Buy at .67, sell at .68
Buy at .67, sell at .68...
B .68
A .69
T7-4
TRIANGULAR ARBITRAGE
T7-5
TRIANGULAR ARBITRAGE
EXAMPLE
London:
New York:
/DM should be:
Frankfurt:
$/ = $2.00
$/DM = $.40
.40/2.00 = .2
/DM = .2
T7-6
T7-7
T7-8
T7-9
An = (Ah/Sj)*(1+ij)Fj
In words:
End Amt Hm Cur = (Beg Amt Hm Cur/Beg Spot Rate) *
(1+Foreign int rate)*(Forward Rate)
T7-10
An = Ah(1+ij)*(1+p)
In words:
End Amt of home currency = (Beg Amt home
currency)*(1 + Foreign int rate) * (1 + forward
premium or discount)
T7-11
T7-12
rj = ih
In words:
T7-13
rj = (1+ij)*(1+p) - 1
therefore
(1+ij)*(1+p) - 1
= ih
(1+ij)*(1+p)
= (1+ih)
(1+p)
= (1+ih)/(1+ij)
T7-14
(4)
p = [(1+ih)/(1+ij)] - 1
In words:
The Forward premium or discount on the foreign
currency is equal to (1 + domestic rate) divided by (1
+ foreign rate) minus 1.
T7-15
T7-16
T7-17
T7-18
p = (Fj - Sj)/Sj ih - ij
In words:
T7-19
Verifying...
-.0214 = (.9786 - 1.00)/1.00 .052 - .075
.052 - .075 = - .0230 -.0214
T7-20
T7-21
Covered Arbitrage
possible for foreign
investors
Forward
Discount %
45
Covered Arbitrage
possible for domestic
investors
Forward
Premium %
T7-22
TESTING IRP
p = a0 + a1(ih - if) + e
T7-23
Taxes
Transactions Costs
Additional Risks
Currency Restrictions
Etc.