PROBLEM SOLVING

PERCENTAGE CHANGE IN CURRENCY

RATES

#2.7, #2.8, #2.9, #2.10

 Calculating % change in Foreign Currency:
Problem #2.7
• a. If US dollar appreciated against Japanese Yen by 8%; by
what percentage has the Japanese Yen changed?
• b. Mexican peso devalued against US Dollar by 40%; by what
percentage has the US Dollar changed?
 Calculating % change in Foreign Currency:
Solution #2.7a
• a. If US dollar appreciated against Japanese Yen by 8%; by
what percentage has the Japanese Yen changed?
• Since the exchange rate is not given, we can assume the initial
exchange rate (P0) to be JPY/USD= ¥100/$.
• With 8% increase, the new exchange rate (P1)= ¥108/$.
• In US, this is an indirect quote (FC/DC) and Percentage change
in Domestic Currency= (P1-P0)/P0 x 100=8%
• Now, to find the percentage change in Japanese Yen, we can
use the same quote in Japan. In Japan, it is a direct quote and
percentage change in domestic currency = (P0-P1)/P1 X 100
• =8/108 X 100 = 7.41%
 Calculating % change in Foreign Currency:
Solution #2.7b
• b. Mexican peso devalued against US Dollar by 40%; by what percentage has the US Dollar
changed?
• Since the exchange rate is not given, we can assume the initial exchange rate (P0) to be
MXP/USD= MXP 3/$. This is direct quote for Mexican Peso
• With 40% increase, the new exchange rate can be calculated by solving for P1, the equation
(P0-P1)/P1= - 0.40 (negative as devaluation) by putting P0=3
• (3-P1)/P1=-0.40
• (3-P1)=(-0.40) X P1
• 3=P1-0.40P1
• 3=(1-0.40) X P1
• 3= 0.60P1
• 3/0.60= P1
• P1= 5
• In US, this is an indirect quote and Percentage change in Domestic Currency= (P1-P0)/P0 x
100= + 40%
• Now, to find the percentage change in US Dollar, we can use the same quote in US. In US, it is
an indirect quote and percentage change in domestic currency = (P1-P0)/P0 x 100 =
200/3%=66.67%
 Measuring % Change in Exchange Rates
Problem#2.8
• In December 1994, the government of Mexico officially
changed the value of the Mexican peso from 3.2 pesos per
dollar to 5.5 pesos per dollar.
a) What was the percentage change in its value?
b) Was this a depreciation, devaluation, appreciation, or
revaluation?
c) Explain.
 Solution #2.8
••Initial
  exchange rate (peso per $) P0= MXP 3.20 per $
•New exchange rate (peso per $) P1= MXP 5.50 per $
•In Mexico, this is a direct quote (DC/FC)
•To find the percentage change in domestic currency ( MXN) we
need indirect quote in Mexico.
• Indirect quote in Mexico.
• P0= $ and P1=

• P0=0.3125 and P1=0.1818

• The percentage change in domestic currency rates

• = = -41.82%
• So, for domestic (Mexican) currency, it is case of devaluation
 Solution #2.8
•• Alternatively,
  we could find out the percentage change in MXP
as Percentage change in foreign currency. The exchange rate
quote is already an indirect quote.

• == - 41.82%
 Calculating new exchange rate given %age
change: Problem#2.9
• Many experts believe that the Chinese currency should not
only be revalued against the U.S. dollar as it was in July 2005,
but also be revalued by 20% or 30%.
• What would be the new exchange rate value if the Yuan was
revalued an additional a) 20% or b) 30% from its initial post-
revaluation rate of Yuan 8.11 per $?
• Assume USD as your domestic currency
 Solution for Problem#2.9
•  
• Initial exchange rate (P0) = Yuan 8.11 per $
• If domestic currency is USD, this is an indirect quote (FC/DC)
• Percentage revaluation against the US dollar= 20.00%
• Revalued exchange rate P1 (Yuan/$)=?
• How will you calculate? Sure!
• We need to calculate the Percentage change in foreign currency
• Percentage Change Δ=
• 20=
0.20=
• 0.20=
• 0+ =
• (0.20+1) =
•
• = =Yuan 6.7583 per $
• = =Yuan 6.2385 per $
 Exchange Rate Change and impact on Price
Problem#2.10
• Toyota manufactures most of the vehicles it sells in the United
Kingdom, in Japan.
• The base platform for the Toyota Tundra truck line is
¥1,650,000.
• The spot rate of the Japanese yen against the British pound
has recently moved from ¥197/£ to ¥190/£.
• What is the percent change in the price of the Tundra to
Toyota's British subsidiary in British pounds?
Module#3_Part_4
#3.15, #3.16, #3.17, #3.18, #3.19, #3.20

FORWARD PREMIUM PROBLEMS

 Problem#3.15
• While in US, you have received the following quotes:
• Spot rate is €1.3300/$
• the 3-month forward rate is €1.3400/$.
a) Calculate the forward premium on the Euro (the dollar is the
home currency)
b) Calculate the forward premium on the Euro (the dollar is the
home currency) using home currency terms (direct quote)
 Solution#3.15a
Forward Premium (Foreign currency terms / Indirect Quote)
• Calculate the forward premium on the Euro (the dollar is the home
•  currency) if the spot rate is €1.3300/$ and the 3-month forward rate is
€1.3400/$.
• European euro Spot = €1.3300/$
• European euro 3- month Forward = €1.3400/$
• As home currency is $ the above quotes are in Foreign Currency terms or
it is case of indirect quote:
• 90 days Forward Premium in %=
• = = - 2.98507 %
• The forward premium at - 2.98507%
• So it is not a forward premium but a forward discount on Euro
• This means the market is expecting fall in price of euro against USD
 Solution#3.15b
Forward Premium (Home currency terms / Direct Quote)

•• European euro Spot = €1.3300/$

 
• European euro 3- month Forward = €1.3400/$
• As home currency is $ the above quotes are in Foreign Currency
terms
• If we convert them to Home currency terms, we get:
• European euro Spot = 1/1.3300 = $ 0.75188/€
• European euro 3- month Forward = 1/1.3400= $0.746269/€
• 3 Month Forward Premium =
• =

• = - 2.9851 %
• The forward premium at - 2.9851% or a forward discount of 2.9851%
 Forward Premium- Problem 3.16

Calculate the forward premium assuming the dollar is the

home currency)
a) if the spot rate is €1.3300/$ and the 3-month forward rate
is €1.3400/$.
b) if the spot rate is $1.5800/£ and the 6- month Forward is
$1.5550/£
 Forward Premium- Solution #3.16a
• Spot rate = €1.3300/$
• 3-month forward rate = €1.3400/$. As home currency is $ the
above quotes are in foreign currency terms or an indirect
quote:
€
𝑃0 − 𝑃1 360
𝑓 = × × 100
𝑃1 90

Percentage Forward Premium=

1.3300 − 1.3400 360
𝑓€ = × × 100
1.3400 90

= - 2.985%
 Forward Premium- Solution #3.16b
• Spot = $1.5800/£
• 6- month Forward = $1.5550/£
• As home currency is $ the above quotes are in Home Currency
terms:

£
𝑃1 − 𝑃0 360
𝑓 = × × 100
𝑃0 180

Percentage Forward Premium =

1.5550 − 1.5800 360
𝑓£ = × × 100
1.5800 180

= -3.16%
 Forward Premium- Solution #3.16b
Alternatively:
• Spot = $1.5800/£
• 6- month Forward = $1.5550/£
• As home currency is $ the above quotes are in Home Currency terms:
• Converting them into Foreign Currency Terms, we get:
• Spot = 1/$1.5800/£ = £0.63291/$
• 6- month Forward = 1/$1.5550/£= £0.64309/$

𝑃0 − 𝑃1 360
𝑓£ = × × 100
𝑃1 180

Percentage Forward Premium

={(0.63291 - 0.64309)/ 0.64309} X (360/180)X100
= (-0.0102)/ 0.64309 x 200= -3.16%
 Forward Premium- Problem 3.17
• Use the following spot and forward bid-ask rates for the U.S.
dollar/Australian dollar (US$=A$1.00) exchange rate from December 10,
2010, to answer the following questions:

  US$/A$ US$/A$
Period Bid Rate Ask Rate
spot 0.98510 0.98540
1 month 0.98131 0.98165
2 months 0.97745 0.97786
3 months 0.97397 0.97441
6 months 0.96241 0.96295
12 months 0.93960 0.94045
24 months 0.89770 0.89900
 Forward Premium- Problem 3.17

a) What is the mid-rate for each maturity?

b) What is the annual forward premium for all maturities?
c) Which maturities have the smallest and largest forward premiums?
 Solution 3.17a

  US$/A$ US$/A$ US$/A$

Period Bid Rate Ask Rate Mid rate
spot 0.98510 0.98540 0.98525
1 month 0.98131 0.98165 0.98148
2 months 0.97745 0.97786 0.97766
3 months 0.97397 0.97441 0.97419
6 months 0.96241 0.96295 0.96268
12 months 0.93960 0.94045 0.94003
24 months 0.89770 0.89900 0.89835
 Solution 3.17b & C
  US$/A$ US$/A$ US$/A$ US$/A$
Period Bid Rate Ask Rate Mid rate Forward Premium
spot 0.98510 0.98540 0.98525 -
1 month 0.98131 0.98165 0.98148 -0.045917
2 months 0.97745 0.97786 0.97766 -0.046252
3 months 0.97397 0.97441 0.97419 -0.044902
6 months 0.96241 0.96295 0.96268 -0.045816
12 months 0.93960 0.94045 0.94003 -0.045902
24 months 0.89770 0.89900 0.89835 -0.0441

b. The forward rates progressively require fewer and fewer US dollars

per Australian dollar than the current spot rate. Therefore, the US
dollar is selling forward at a premium and the Australian dollar is
selling forward at a discount.
c. The 24 month forward rate has the largest premium, while the 2
month forward possesses the smallest premium.