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End Semester Paper

The document is an examination paper from the Indian Institute of Technology Kharagpur for the International Finance course, covering various financial concepts including currency arbitrage, profit margins, syndicated loans, hedging options, interest rate swaps, and debt instruments. It consists of multiple questions requiring calculations and analysis related to foreign exchange rates, investment returns, and financing strategies. The exam is structured to assess students' understanding of international finance principles and their application in real-world scenarios.

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Vinay Dutta
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23 views3 pages

End Semester Paper

The document is an examination paper from the Indian Institute of Technology Kharagpur for the International Finance course, covering various financial concepts including currency arbitrage, profit margins, syndicated loans, hedging options, interest rate swaps, and debt instruments. It consists of multiple questions requiring calculations and analysis related to foreign exchange rates, investment returns, and financing strategies. The exam is structured to assess students' understanding of international finance principles and their application in real-world scenarios.

Uploaded by

Vinay Dutta
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as PDF, TXT or read online on Scribd
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INDIAN INSTITUTE OF TECHNOLOGY KHARAGPUR

Department of Humanities and Social Sciences


Mid-Autumn Semester Examination - 2019-20
Date: September 24, 2019 Full Marks: 30
Time: 2.00 - 4.00 pm Sub. Code: HS50025
International Finance

Answer ALL the questions [5 marks each]

1. Your friendly foreign exchange trader has given you the following currency cross rates.
The quotes are expressed as units of the currency represented in the left-hand column
per unit of currency shown in the top row. Consider the dollar rates to be the quotes
from which the cross rates are set.

Currency SFr DKr GBP Yen USD


SFr - 0.29570–76 2.4256–67 0.01276–78 1.5780–86
DKr 3.3818–25 – 8.2031–41 0.04315–19 5.3021–33
GBP 0.41227–35 0.12381–90 – 0.00526–29 0.6502–10
Yen 78.381–496 23.178–251 190.121–390 – 123.569–707
(a) Do any triangular arbitrage opportunities exist among these currencies? Assume
that any deviations from the theoretical cross rates of 5 points or less are due to
transaction costs.
(b) How much prot could be made from a $5 million transaction associated with each
arbitrage opportunity?

2. A company called USKGP Peace Inc. exports voice mail systems from the United
States, where it is based and the systems are constructed to the United Kingdom. It
has invested (US dollars) USD 300,000 domestically in this export business. In 2012,
voice mail system cost USD 500 to build and was sold for (British Pound) GBP 520 and
exchange rate was 0.65 GBP/USD. The firm exports 100 units. Its British competitor
(located in the UK) would also be selling the similar products at GBP 520.

(a) Please calculate profit margin and return on investment.


(b) Suppose inflation is 3% in the US and 8% in the UK over the next year. Illustrate
effect of this on USKGP Peace Inc.’s operations, if exchange rate moves exactly
according to purchasing power parity principle.
(c) Consider the case where there is a real appreciation of the dollar and exchange
rate becomes 0.7000 GBP/USD and UKGP Peace Inc. choose to set its UK price
equal to the price of its UK competitors. What will be its effect on profit margin
and return on investment of the firm.

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3. Siemens AG, the large German electronics company, is looking to raise $500 million for
the next five years. Bank of America and Deutsche Bank have come up with competing
bids for the mandate to syndicate a $500 million Eurodollar loan for Siemens. Their
proposals are as follows

Bank of America Proposal Deutsche Bank Proposal


Principal $0.5 billion $0.5 billion
Maturity 5 years 5 years
Rest period LIBOR+0.25% LIBOR+0.375%
Interest rate Every six months Every six months
Syndicate fee 1.125% 0.75%

(a) What are the net proceeds to Siemens from each of these syndicated loan propos-
als?
(b) Assuming that six-month LIBOR is currently at 4.35%, what is the effective
annual interest cost to Siemens for the first six months of each loan?

4. DKNY, the apparel design firm owes MexD 7 milliion in 30 days for a recent shipment
of textiles from Mexico. DKNY’s transfer is considering hedging the company’s peso
exposure on this shipment and is looking for some help in figuring out different hedging
options might cost and which option is preferable. The foreign exchange trader quotes
the following interest rates and exchange rates:

Spot rate MexD 13.0/USD


Forward rate (30 days) MexD 13.1/USD
30-day put option on dollars at MexD 12.9/USD 1% premium
30-day put option on dollars at MexD 13.1/USD 3% premium
U.S. dollar 30-day interest rate (annualized) 7.5%
Peso 30-day interest rate (annualized) 15%

(a) Is put option as an option available to DKNY? Why?


(b) What is the hedged cost of DKNY’s payable using a forward market hedge?
(c) What is the preferred alternative?

5. Suppose that IBM would like to borrow fixed-rate yen, whereas Korea Development
Bank (KDB) would like to borrow floating-rate dollars. IBM can borrow fixed-rate
yen at 4.5 percent or floating-rate dollars at LIBOR + 0.25 percent. KDB can borrow
fixed-rate yen at 4.9% or floating-rate dollars at LIBOR + 0.8%.

(a) What is the range of possible cost savings that IBM can realize through an interest
rate/currency swap with KDB?

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(b) Assuming a principal equivalent to USD 125 million, and a current exchange rate
of Yen 105/USD, what do these possible cost savings translate into in yen terms?
(c) Redo Parts a and b assuming that the parties use Bank of America, which charges
a fee of 8 basis points to arrange the swap.

6. ReadymadeInds Manufacturing wants to raise $100 million of 3-year debt in the Eu-
romarket (where interest is quoted and paid on an annual basis). Its alternatives are
either a 3-year fixed rate note at a spread of 250 basis points over the 3-year U.S. Trea-
sury (currently yielding 4.50 %) or a 3-year floating rate note on which it must pay
yearly interest of 1-year LIBOR+2% (1-year LIBOR currently yields 3.70%, therefore,
the floating rate note’s first interest payment of $5.7 million would be paid at the end
of year 1). However, ReadymadeInds wants to have a fixed rate liability for the entire 3
years. Assuming the following instruments are also available to ReadymadeInds (with
BomYork, an AAA rate bank as the counter party), which strategy will enable Ready-
madeInds to pay the lowest all-in-fixed rate of interest (assume all rates are quoted on
an annual basis?

Swap 3-year swap has all-in pay-fixed rate of 3 year Treasury + 30 basis points
(=4.50 %+0.30) versus receiving 1 year LIBOR.
FRAs 12/24 FRA has all-in pay-fixed rate of 2-year Treasury+90 basis points
(=4.10%+0.90%) versus receiving 1-year LIBOR.
24/36 FRA has all-in pay-fixed rate of 3 year Treasury+150 basis points
(=4.50 %+1.50%) versus receiving 1-year LIBOR.
Caps Premium for 3-year caps (with annual pay) on 1-year LIBOR
Strike Rate Premium
4.00% 2.23%
4.80% 0.70%
5.00% 0.49%
6.00% 0.08%
Floors Premium for 3-year caps (with annual pay) on 1-year LIBOR
Strike Rate Premium
4.00% 0.18%
4.80% 0.70%
5.00% 0.90%
6.00% 3.22%

Assume that FRAs are settled at the end of the period.

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